Cash Contingency Planning

In the May Peer Group meeting we discussed the risk of Greece or any of the other PIIGS countries defaulting. Drilling into the subject was daunting and presented a catch 22 situation, however you turn, you have to turn again. The demonstrations in Greece present not so much a financial risk per se, however they represent the mentality of the demonstrators. It is apparent that many of the Greek citizens don't comprehend that one can't spend more money than one has access to. I remember the same mentality from the Swedish meltdown in 1990-92, when Sweden quickly had to convert from a populist “I request – someone else shall pay” mentality until the people realized basic fundamentals. Sweden had built up a huge leveraged position both in the private and in the public sectors that collapsed when the asset prices plummeted at the end of 1989. In 1992 the peg to the EUR was dropped and O/N interest rates did hit 500% for a few days. Thereafter Sweden has had a 20 years highly disciplined fiscal regime. Now the Swedish government has small debt thanks to very high taxes and continuously reduced public services. The high tax rates force the population into high level of personal debt and mortgage, which is a huge transfer of wealth from the private to the public sector only sustained with high property prices. In such the Swedish economy has inherent risks but not in the magnitude of Greece. Since in Greece we see the opposite situation with low taxes, low personal debt, and the Greek state being on the brink of default, extremely leveraged.

How shall we device contingency plans for countries close to default? Step one is obviously to reduce all risk on the sovereign itself, and take out all cash from the country (which may be more easily said then done as most money funds do not immediately disclose holdings). Step two is to reduce capex and step three is to disinvest. This becomes a vicious circle that we experienced during the recurring Swedish crises from end of 70-ties to the huge 1990-92 crisis. All crises led to that most companies took cash out and avoided taking Swedish export revenues back over the border forcing depreciations. This is what happens in Greece now. The difference is that Sweden had its own currency so the simple remedy was depreciation. Can Greece take the Drachma back? Is that an option at all? The Swedish Krona (SEK) depreciated immensely in the period 1975-1995 to the Deutsche Mark (DEM) because bad policies and populism. See graph: 

Next sovereign to worry about now is the USA being heavily discussed in the media, here is one example.

How to place the cash? What are the alternatives? I would like to test the water for new solutions I have found in my research. For the below text I have therefore kindly asked assistance from Eric Lansky, Director StoneCastle Cash Management when listing alternatives for the cash holdings:

Money Funds gave us lots of problems in the previous crisis. Is the market better equipped this time to cater for a run on funds? However we do not yet know the impact of new regulation. A large part of the funds are kept by institutional investors and how do they act if rates rise and overnight rates present better value?

Treasuries used to be zero risk but what now? And the rate is not so compelling. 0.00% doesn’t increase ones returns, regardless of volume invested.

Direct Bank Deposits are state secured up only to a very modest amount. In the US there is a new offering launched, basically allowing treasurers with larger cash balances to receive expanded FDIC coverage (up to 20 MUSD per tax entity),  providing higher rates, daily transparency  and a single statement. FICA® is a network of hundreds of FDIC insured money market deposit accounts which are electronically linked together through a single, convenient account. All deposits are divided into several banks' deposits under the FDIC limit. The solution is called FICA® or the Federally Insured Cash Account. Another program similar to FICA, but places deposits in less liquid bank CD’s is CDARS. Any of you have any experience of FICA or CDARS, please share in Comments below. Thanks.

My conclusions

The alternatives basically remain the same as in 2008 but the cash holdings at corporations are so much larger this time since balance sheet improvements have been going on for the past 3 years. This does not decrease the financial risk since the cash cushions represent counterparty risk. We are therefore probably returning to a situation when we will focus on return OF cash instead of return ON cash. But this time it is the sovereigns defaulting and who will be the lender of last resort? And where did zero risk go? Oooops

During the credit crisis we in the Peer Group kept close contact discussing how to mitigate risk for individual banks and other deposit holders. We shared information and intelligence from the market and stayed on top of the situation. It was comforting and surely saved our employers’ money.