Liquidity management

Matthew Gallacher discusses the higher interest rate environment, focusing on short and medium term cash forecasting, and whether it would allow for a more flexible liquidity strategy.

Effortless active liquidity management

Many of us may be thinking that we could be managing our company’s liquidity more actively, particularly in the current era of higher interest rates, but may be cautious about tying up too much cash to gain from better rates of return versus the need to access cash when and where it is wanted.

Think about this another way – we are operating in a business world of instant payments, available 24 hours a day, seven days a week, against a backdrop of changing retail behaviour. This instant access is convenient (for the end consumer) and efficient (for the retailer and supplier). But what is the impact on liquidity management in this new environment when there are two competing demands – having cash readily available versus generating higher yields?

Passive or active, that is the question

Passive cash management – where the search for yield is subordinated to security, and ease of access – is a familiar method of working. This could simply be because it is not an issue high on a treasurer’s agenda. But passive cash management comes with its own costs – what are treasurers missing out on, and how is it possible to challenge this way of thinking?

Do you know what options are now available – provided either by your relationship banks or other third parties? How good is your short and medium term cash forecasting, and would it allow for a more flexible liquidity strategy? You can spend time and effort producing a forecast, but are you missing a trick if you do not act on it?

A good forecast can help you decide whether you want to place some of your surplus cash into an overnight facility, and lock the rest of it up longer term, with the consequent boost in yield.

Do you require yield or liquidity?

This is where caution steps in again – your CFO might appreciate that you were able to produce a high yield on your cash, but they certainly won’t thank you if there is insufficient cash available to meet the business’s liabilities. Treasurers are not often incentivised to actively seek out higher yields. Yes, a higher yield will add value to the business, but the returns might not outweigh the risks of being unable to access the cash when it is required.

Nevertheless, treasurers might still have the feeling that they are missing out, especially in today’s technologically disrupted environment, where new tools are coming on stream that may be able to help them access those yields quickly, smoothly and with less effort than before. For instance, it is now possible to use solutions that automate investment opportunities; a process that in the past may have been onerous and, therefore, could discourage the pursuit of a more active strategy.

What about security?

During a decade of lower interest rates, our focus, as treasurers, was probably elsewhere, but now security, liquidity and yield are once again having their time in the limelight. During the COVID-19 pandemic, liquidity became paramount. Then, the subsequent rise in inflation that led to an increase in interest rates brought yield to the fore. Security reared its head in early 2023 following the rescue of banks such as SVB and Credit Suisse, pushing counterparty risk up the agenda.

The combination of these three factors drove conversations on cash and liquidity management, but did they drive policies towards or away from more active management? If the conversations lean towards a more active policy, then the next steps would be to speak with relationship banks and other providers to see what is available. However, treasurers will naturally want to carry out their own due diligence – asking the right questions, both of external providers, and internally to understand processes and what would be required of the treasury team. They would want to know about the impact on available bandwidth, how partnering with a third-party supplier could ease the process and what additional internal resource, if any, would be required.

What are the pros and cons of an active strategy?

Treasurers will understand that passive and active liquidity management strategies will serve different purposes and come with their own advantages and disadvantages. Passive liquidity management offers simplicity, stability, and lower costs, while active liquidity management provides flexibility, potential for higher returns, and customisation.

The choice between passive and active liquidity management depends on factors such as your business’ risk tolerance, investment objectives, cash-flow patterns and market conditions. Some businesses may opt for a combination of both passive and active strategies to balance stability with opportunities for enhanced returns.

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