'The most important thing to remember in any interaction with the financial markets – whether it be on interest rates, exchange rates or any other financial product – is to give yourself time to make decisions that are well thought through,' says Theunis Fourie, Head of Investments at First National Bank (FNB) Public Sector Banking. 'The easiest way of achieving this is by putting the correct investment policy (or hedging policy, or any other applicable policy, for that matter) in place before you start dealing with the market.'

Drafting an investment policy should never be just another box to tick. The head of your department, in association with the finance staff, must sit down and seriously consider the dynamics of their business and their business processes. Policies must be drafted in a calm and objective environment that does not reflect momentary concerns and the pressures of a temporarily volatile market. 'Don’t get rattled by volatile markets,' Fourie warns. 'Rather take a longer view - after all, a decision taken in haste allows you to repent at leisure.'

'As regards liquidity, you must consider the volatility or stability of your cash flow projections. If income and expenditure are predictable and you know what your cash positions are going to be for the foreseeable future, then you should think about foregoing some liquidity and flexibility, and investing in longer term assets that provide for higher yields on an absolute basis,' he says. The downside of investing for too long a term is the cost of having to utilise expensive short term bridging finance facilities to bridge the investments until maturity.  If, on the other hand, your cash flow predictions change from month to month, then you should rather consider shorter term investments that provide for more liquidity and flexibility, even if the interest rates received are relatively lower.

Any investment policy must also take into account the safety of the investment. If ongoing credit risk analysis of financial companies is one of your finance team’s core competencies, then by all means consider investing in higher yielding investments with lower rated entities. Just make sure that you time your exit well, if needs be.

If, however, the safety of your investment is a primary concern, then stipulate in your policy that investments may only be made with highly rated financial or other institutions. That should give you comfort of stability, while it should also provide you with enough warning should there be a deterioration in any entity’s financial health. The run on small banks in South Africa a number of years ago provides an example of the dangers of investing solely with a view towards earning an extra 25 or 30 basis points.

Fourie says that optimising interest income is, of course, very important. But the interest earned on a portfolio of investments must reflect your department’s liquidity needs as well as your concerns with regards to the safety of their investments. A yield 'kicker' of 25 or 30 basis points will rarely make up for the cost of having to access an expensive overdraft facility to meet your needs for liquidity or, even more so, the loss of part of or the full notional amount invested.

According to Fourie, it is vital that you remain focussed on your department’s core competency, rather than trying to second guess the market when it comes to interest rates. The market’s expectations of rate increases or decreases are normally already discounted by the market in the interest rate curve. So if you think rates are going to go down and the market agrees with you, the interest rates that you will receive on longer term investments would already have decreased to reflect those expectations. 

'Remember that banks have hundreds, if not thousands, of people trying to predict where markets are going. That is their core business,' he says, 'and corporate treasuries must be careful of trying to compete with that. Try to match your policy with your ability – as you grow more experienced, you can try and expand the ambit of your investments.'

In short, understand your owns needs, weaknesses and strengths and don’t try and experiment in what is sure to be a very volatile financial market for the foreseeable future.

For more information about FNB’s Public Sector Banking offer, please call Colleen Speirs, Head of FNB Public Sector Banking Operations on +27 11 371 8438.