HomeMy WebLinkAbout04.b. Review and discuss whether to pursue additional credit monitoring for investements Page 1 of 14
Item 4.b.
CENTRAL SAN
April 23, 2019
TO: FINANCE COMMITTEE
FROM: PHI LIP LEI BER, DI RECTOR OF FINANCEAND ADMINISTRATION
REVIEWED BY: ANN SASAKI, DEPUTY GENERAL MANAGER
ROGER S. BAILEY, GENERAL MANAGER
SUBJECT: REVIEW AND DISCUSS WHETHER TO PURSUE ADDITIONAL CREDIT
MONITORING FOR INVESTMENTS
I n the fall of 2018, in connection with the annual review of the Board Policy No. B P 005 — Statement of
Investment Policy, an Administration Committee member inquired about Central San's reliance on credit
ratings that are assigned by the nationally recognized statistical rating organizations (NRSRO) such as
Moody's, Standard & Poor's, and Fitch. The concern expressed was whether these agency's ratings are
reliable and whether the agencies act quickly enough when credit deterioration occurs. This issue was
brought up again at the January 28, 2019 Finance Committee. Staff informed the Committee at that time
that it was in the process of evaluating options for potentially enhanced credit monitoring and would report
back to the Committee once it had completed its evaluation.
Issue in Detail
Credit monitoring is a relevant issue as Central San invests in various debt instruments as allowed for in
the Investment Policy. Such investments are for funds not immediately needed for current expenditures,
primarily for the Running Expense (Operations and Maintenance) sub-fund and the Sewer Construction
sub-fund. Central San staff performs overall cash management by reviewing fund balances, projected
income funds and outgoing expenditures through a cash forecast. Bank Account balances are managed to
provide sufficient funding for checks issued. Additional short-term funds are typically held in the State of
California's Local Agency Investment Fund (LAI F), and longer-term funds are invested in various debt
instruments, typically federal agency securities, or commercial paper or corporate medium-term notes.
With respect to the latter two categories, the investment policy permits the purchase of only high-quality
securities in the top short-term-rating category (A-1, P-1 or equivalent) or top two long-term-rating
categories (AAA or AA or equivalent). Based on that, and the fact that most investments are relatively short
term, it is unlikely that such investments would result in loss of principal; however, it is not impossible. At
times companies can be assigned high credit ratings and, within months, significant downgrades can
occur; even, potentially, bankruptcy. When that occurs, it is reasonable to ask whether one should have
relied on the credit ratings or conducted some additional type of analysis of the companies whose debt
was purchased.
Prudent Investor Standard
The California Government Code (GC) requires those involved with investment decisions to exercise
reasonable care of a typical comparable investment manager which is called the Prudent Investor
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Standard:
7.1 Prudent Investor Standard. "Governing bodies of local agencies or persons authorized to
make investment decisions on behalf of those local agencies investing public funds are trustees
and therefore fiduciaries subject to the prudent investor standard. When investing, reinvesting,
purchasing, acquiring, exchanging, selling or managing public funds, a trustee shall act with care,
skill, prudence and diligence under the circumstances then prevailing, that a prudent person
acting in a like capacity and familiarity with those matters would use in the conduct of funds of a
like character and with like aims, to safeguard the principal and maintain the liquidity needs of the
agency. Within the limitations of this section and considering individual investments as part to an
overall strategy, investments may be acquired as authorized by law."(GC§53600.3.1)
Contra Costa County- Screening/Monitoring
Presently, Central San is relying on ratings of the nationally recognized statistical rating organizations and
due diligence conducted by the Contra Costa County Treasurer regarding initial investment screening and
ongoing monitoring. Central San staff discussed this with the Contra Costa County Assistant Treasurer
and was provided a summary of County practices in these areas. In short, the County:
1. Conducts analysis of potential issuers for inclusion on an approved issuer list that is approved
annually. The type of analysis conducted is described in Attachment 1, their document entitled
Contra Costa County Treasurer's Credit Evaluation and Approval Procedures. The County's
complete investment policy and approved issuer list is maintained on its website:
http://www.co.contra-costa.ca.us/DocumentCenter/View/845/1 nvestment-Policy?bid I d. The approved
issuer list for Fiscal Year 2018-19 includes 42 issuers and includes major financial institutions and
corporations.
2. Once on the approved list, a County representative provides some ongoing monitoring of the issuers
on the approved investment list via news stories on a Bloomberg subscription service.
The County investment policy does allow for the purchase of investments of issuers not on the approved
list, but this is "only rarely done." The County representative also pointed out that County procedures are
evaluated annually by Standard and Poor's (S&P), and have been rated AAAf/S1+ since 2007.
The S&P rating indicates that Contra Costa County is one of a limited number of government investment
pools that applies for and maintains such a rating to demonstrate that its investment practices are
monitored and should result in limited investment risk.An S&P report describing such ratings is provided
here: http://www.gioa.us/presentations/2012/20-lvancich.pdf.
Alternatives
Central San can continue its current practice, or look to further enhance credit monitoring, which could
most efficiently be done through the purchase of a third-party credit monitoring service. While having staff
conduct in-house intensive research about companies is theoretically possible, it does not seem optimal
given the availability of third-party services that conduct such analysis on behalf of a broader set of users
with the ability to recover such research costs over a broader base. Central San staff reviewed two
options for third party credit monitoring.
1. Credit Risk Monitor. See Attachment 2 for an overview of this service. This is a subscription-
based web portal which allows users to input a list of names and provides a dashboard of information
on each company including news stories and an indicator(FRISK score) ranking the financial health
of a company scored from 1-10 (1=worst, 10=best). The FRISK score is calculated based on
several financial statement ratios, and also incorporates "crowd sourcing" indicators based on a
user's inquiries and indicated concerns about the company. Advantages and disadvantages include:
April 23, 2019 Regular FINANCE Committee Meeting Agenda Packet- Page 142 of 156
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+ Lower cost
- Credit scoring algorithm relies more on past financial indicators; may not pick
up investor concerns as rapidly(though the crowd sourcing feature may to some degree
reflect such concerns)
2. Mood-y's Anal-tics Credit Edge. See Attachment 3 for an overview of this service. This also is a
web-based portal which provides an expected default frequency for companies which fluctuates daily
based on various capital market indicators such as stock and bond prices, credit default swap prices,
and other information. Moody's Analytics is a sister company of the Moody's Investor Services which
provides the more traditional NRSRO ratings. Advantages and disadvantages include:
+ Likely more robust and predictive analytics for public companies
- Private company tool is available at additional cost
Additionally, either service could also be used to some extent for purposes beyond monitoring
investments such as:
• When evaluating suppliers responding to requests for proposal, Central San staff perform an
evaluation of the financial health. This would be an incidental use, as Central San does not
conduct a large number of such analyses annually.
• To ensure ongoing availability of goods and services, Central San's Risk Management group
would work with individual units within Central San to ensure they have considered and have
workarounds for suppliers if they should be unable to supply to Central San due to financial or
other difficulties. This would be an evolving use, as Central San is only in the development
stage of considering such factors.
Potential Drawbacks
A complication about using either service in connection with the initial decision regarding whether to
purchase an individual investment is as follows:
Presently, Central San indicates to the County that it would like to invest a specified amount of
money for a specified duration. The County then identifies an investment that is:
1. Permissible under Central San's Investment Policy as to ratings and duration;
2. Authorized on the County's approved investment list; and
3. Available from one of 19 investment brokers the County deals with.
If a credit monitoring service were to be used, an additional step would need to be inserted in the
above process whereby Central San would be informed of the potential investment name by the
County, and Central San would run a report on the issuer with the credit monitoring service. This
could result in some additional back and forth time.As a result, an investment that was available with
a broker one moment can be unavailable minutes later as brokers often do not maintain a significant
inventory, but instead buy and sell positions rapidly.
With respect to using the service once an investment is in Central San's investment portfolio, if a
decision were made to sell the investment prior to maturity based on concerns uncovered by the
credit monitoring service, the following are potential considerations:
1. Central San would need to establish standards or use judgment for when to sell a security
based on the risk scores reported by the credit monitoring service.
2. A capital loss may result if the trading price for the security is below par, and another buyer for
April 23, 2019 Regular FINANCE Committee Meeting Agenda Packet- Page 143 of 156
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the security can be found.
3. The market for debt securities is not always liquid and, at times of market stress, it can be
difficult to find a buyer for an un-favored security. So, an ability to sell the security at all is not
assured, even if negative information is provided by the credit monitoring service
Financial Impacts
Purchase of a third-party credit monitoring subscription would involve a direct expenditure in the $10,000 to
$20,000 range annually. Central San has negotiated with both vendors to seek a cost-effective
arrangement.Amounts have not been specified precisely in this memorandum due to quote confidentiality.
Staff Position
A decision to move forward with purchasing a third-party credit monitoring subscription would be within the
General Manager's discretion. However, at this time, staff are not proposing to move forward with this
step. While the cost is not significant, the monitoring performed by the County along with the credit ratings
is viewed as adequate and sufficient to meet the prudent investor standard at this time. Other
potential options for the data, such as monitoring vendor health are potentials for the future, but require
additional internal consideration.
That being said, the matter is brought forward for discussion and feedback from the Committee.
Strategic Plan Tie-In
GOAL THREE:Be a Fiscally Sound and Effective Water Sector Utility
Strategy 2- Manage costs
ATTACHMENTS:
1. County Credit Monitoring
2. Credit Risk Monitor
3. Moodys Credit Edge
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i
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CONTRA COSTA COUNTY
TREASURER'S
CREDIT EVALUATION AND APPROVAL
PROCEDURES
OFFICE OF COUNTY TREASURER-TAX COLLECTOR
625 COURTS STREET, ROOM 100
MARTINEZ, CALIFORNIA 94553
CCC TREASURER'S CREDIT EVALUATION AND APPROVAL PROCEDURES Page 1
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Table of Contents
1.0 PURPOSE.............................................................................................................................................3
2.0 PROCEDURES ......................................................................................................................................3
2.1 DUE DILIGENCE PROCESS .............................................................................................................3
2.2 APPROVAL PROCESS.....................................................................................................................4
CCC TREASURER'S CREDIT EVALUATION AND APPROVAL PROCEDURES Page 2
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CONTRA COSTA COUNTY
TREASURER'S CREDIT EVALUATION AND APPROVAL PROCEDURES
1.0 PURPOSE
The Contra Costa County Treasurer's Office (the "Treasurer's Office") has established the
following Credit Evaluation and Approval Procedures (the "Procedures") for security issuers.
The purpose of these Procedures is to provide general guidance to the Contra Costa County
treasury staff (the "Staff") with respect to conducting credit evaluation of security issuers and
adding them to the Approved List of the Contra Costa County Treasurer's Annual Investment
Policy (the "Investment Policy"). However, the Procedures in no way are designed to limit or
hinder Staff's ability to make investments in a timely and prudent fashion. The Treasurer-Tax
Collector and the Staff may do business with an issuer that is not on the Approved List of the
Investment Policy at the time of purchase or has not gone through all steps described below as
long as the investment decisions are made per the Prudent Investor Standard.
2.0 PROCEDURES
2.1 DUE DILIGENCE PROCESS
• The main objective of conducting credit research is to assess the credit worthiness of an
issuer. Each issuer is unique and so the credit research may be conducted differently
from one issuer to another. Thus, the process described below may vary.
• The credit research process starts with the Investment Operations Analyst (the
"Analyst") and Investment Officer identifying a security issuer.
• The Analyst gathers the basic credit information of the issuer. Information may be
obtained from various sources such as Bloomberg, the official website of the issuer, etc.
• Basic credit information may include, but not limited to: organization structure of the
issuer, general economic condition of the country and the industry/market sector where
the issuer is headquartered, guarantee program if any, various risks associated with the
issuer, NRSRO ratings, the issuer's financial statements, total outstanding debt (both
long-term and short-term), the top 10 largest debt holders of the issuer, etc.
• The Analyst conducts online research for the headline risks and/or catalysts,
publications, and news of the issuer.
• The Analyst communicates with other California counties and brokers/dealers for
additional information, insight, and references of the issuer.
• The Analyst and Investment Officer will then conduct in-depth analysis of the issuer
followed by a comprehensive written evaluation.
• Upon completion of the analysis and evaluation, the Analyst and Investment Officer will
provide a written investment recommendation to the Assistant County Treasurer. The
CCC TREASURER'S CREDIT EVALUATION AND APPROVAL PROCEDURES Page 3
April 23, 2019 Regular FINANCE Committee Meeting Agenda Packet- Page 147 of 156
Page 8 of 14
recommendation should include the following: 1) Recommendation; 2) Background; 3)
Analysis; and 4) Conclusion.
2.2 APPROVAL PROCESS
• Pursuant to Section 53607 of the California Government Code, the Contra Costa County
Board of Supervisors annually delegates investment authority to the County Treasurer.
The County Treasurer and designees are given full investment discretion within the
limitations of the Policy, applicable laws and regulations.
• Upon receipt of the investment recommendation from the Investment Officer and the
Analyst, the Assistant County Treasurer reviews the recommendation and discusses it
with the Investment Officer and the Analyst in greater details.
• If the issuer is not recommended by the Investment Officer and the Analyst nor agreed
to by the Assistant County Treasurer, all research documents will be filed for future
reference.
• If the issuer is recommended by the Investment Officer and the Analyst, and is agreed to
by the Assistant County Treasurer, the issuer will be put under close monitoring for
approximately 3-6 months. Any additional observations arising from the monitoring
period will be documented and included in the comprehensive credit analysis and
evaluation.
• At the end of the monitoring period, if the original positive recommendation remains,
the Assistant County Treasurer will recommend to the County Treasurer-Tax Collector
and the Chief Deputy Treasurer-Tax Collector that the issuer be added to the Approved
List of the Policy.
• The the Assistant County Treasurer, the Treasurer-Tax Collector, and the Chief Deputy
Treasurer-Tax Collector will hold discussions to determine if and when the issuer should
be added to the Approved List.
• When approved by the Treasurer-Tax Collector, the issuer will be added to the
Approved List and become eligible for investment considerations.
• The amended Policy will then be reviewed and adopted by the Treasury Oversight
Committee and the Board of Supervisors annually.
CCC TREASURER'S CREDIT EVALUATION AND APPROVAL PROCEDURES Page 4
April 23, 2019 Regular FINANCE Committee Meeting Agenda Packet- Page 148 of 156
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ATTACHMENT 2
https://www.creditriskmonitor.com/
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April 23, 2019 Regular FINANCE Committee Meeting Agenda Packet- Page 149 of 156
Page 10 of 14
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April 23, 2019 Regular FINANCE Committee Meeting Agenda Packet- Page 150 of 156
Page 11 of 14
r l CreditRiskMonitor Portfolio FRISK History Update
Here's the latest FRIS0 score history for your portfolio_
2013 2013 2013 24I3 2015 2018 FBusiness
Name Count hSAR APR MAY JL11 JUL AUG OGT NOV DEC SAN FEB hL1R Remarks
4i.vri.t Grouo ole United Kingdom 7 8 9 9 9 9 8 8 8 7 7 9
ABB Ltd ADR) Switzerland 10 LD 10 10 10 t0 10 LD t0 10 10 10 10
ABB Ltd. Switzerland 10 ID 10 10 10 10 10 ID 10 10 10 . ]0
Ace Hardware Coro United States 6 6 6 6 6 6 6 6 6 6 6 6 6
Aeram United States 7 7 7 7 7 7 7 7 7 6 6 7 7
Aefa-Cec-aeet NI Belgium ` 4 4 4 5 5 5 5 5 5 5 5 5
Aeereka DI c United Kingdom 7 7 7 7 7 7 7 7 7 7 7 7 8
Aeilent Technoloeies Inc United States 10 10 9 9 10 LO 10 lD 9 9 10 10 ]0
Air Liquide SA France 10 ID 10 10 10 LO 10 ID LO 10 10 10 ]0
Alfa Local AB Sweden 10 10 10 10 10 9 9 7 7 7 7 7 8
AID babet Inc United States 10 10 10 10 10 t0 10 10 t0 10 10 10 10
AMETEK,Inc. United States 10 ID 10 10 10 10 10 9 9 9 9 9 9
Aon PLC United Kingdom 9 9 9 9 9 9 10 9 9 9 9 9 9
ADoOo Global lfanaeemeni LLC United States 9 9 9 9 10 to 10 9 9 9 9 9 9
Apple Iuc. United States 10 ID 10 10 10 9 9 ID 9 9 9 9 9
Applied Industrial T-hmd—i- United States 9 8 7 8 9 9 9 8 8 7 7 7 7
Aramark United States 8 8 7 7 7 6 6 5 5 4 5 5
ARC Document Solutions Inc United States 14 4 3 'I 2 4 5 5 4 5 5 5 5 5
Area.,Inc United States 8 8 9 9 9 9 9 9 10 10 10 10 10
Ashtead Group Dk United Kingdom 9 9 10 9 9 LO 10 9 9 9 9 9 9
Atlas Coraco AB Sweden 10 ID 10 10 10 LO 10 ID LO 10 20 ]0 ]0
AutaZo.e,Inc United States 6 6 6 7 7 8 8 7 7 7 7 7 7
Bakercom International Inc United States 1 1 1 1 3 3 4 4 4 4 4
BiGtaee AB Sweden 0 ID 10 10 10 10 10 ID 10 10 10 10 10
Blackstone Grouo LP United States 10 10 10 10 10 10 10 9 9 9 9 9 9
Catemffl—Inc. United States 10 10 10 10 10 to 10 9 9 9 9 9 9
CDW Com United States 7 7 7 7 8 8 9 7 7 6 6 7 7
CECO Environmeal Com. United States OW 5 5 5 6 6 6 6
Vtl'1h1 MIT.T.!'mm—;ea l.l.t i7 ite.d Stat., 6 6 6 6 6 6
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ATTACHMENT 3
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April 23, 2019 Regular FINANCE Committee Meeting Agenda Packet- Page 153 of 156
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