BSOCS 3
Treasury investments and liquidity risk management
BSOCS 3.1
Introduction
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BSOCS 3.1.1
See Notes
(1)
This chapter sets out the
FSA's
guidance specific to societies on management of their treasury investments, using the five approaches to financial risk management set out in BSOCS 1 in order to enable them to comply with BIPRU 12, GENPRU 1.2 and SYSC 4 to SYSC 7.
(2) The chapter outlines factors the
FSA
will consider when assessing the adequacy of a society's treasury investment risk management. A list of the types of asset suitable for inclusion as treasury investments for societies on each of the five levels of financial risk management capability is set out in the table at BSOCS 3.3.12 G.
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BSOCS 3.1.2
See Notes
Treasury investments may be held for a variety of purposes which broadly fall into three categories:
(2) other assets held operationally for matching and cash flow management purposes; and
(3) assets which management have decided to hold in order to generate income.
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BSOCS 3.1.3
See Notes
The guidance in this sourcebook relating to treasury investments applies to all treasury investments, regardless of the reason for which they are held.
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BSOCS 3.2
Board and management responsibilities over treasury activities
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Degree of risk
BSOCS 3.2.1
See Notes
BSOCS 5 (Financial risk management) refers to the potential risks to societies of treasury activities. In particular, the size and complexity of some transactions can make them vulnerable to losses, and the impact of losses on individual transactions in the treasury area can be significant and immediate. Boards have ultimate responsibility for deciding the degree of risk taken by their societies, including all categories of treasury assets and risks arising from the management of treasury activities.
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BSOCS 3.2.2
See Notes
A society specialises in long-term mortgage lending which is financed mainly by liabilities which are contractually short-term. This feature of societies' business creates maturity mismatches which can give rise to cash flow imbalances. To ensure that it can meet its obligations as they fall due, a society is required to hold an adequate liquid assets buffer of the kind described in BIPRU 12.7.
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BSOCS 3.2.3
See Notes
In addition to cash flow mismatches which occur over time, societies can face intra-day mismatches, as outflows may precede inflows. Societies should ensure that they manage this risk in full compliance with the intra-day liquidity management provisions of BIPRU 12.3.17 R to BIPRU 12.3.21 E.
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Liquidity policy statements
BSOCS 3.2.4
See Notes
(1) Societies should have a liquidity policy statement, which, among other things, includes the strategies, policies, processes and systems to manage liquidity risk, and the liquidity risk tolerance, required by BIPRU. Rules and guidance in relation to the responsibilities placed on a society's governing body to approve these strategies, policies, processes and systems and to establish and document a liquidity risk tolerance are set out in BIPRU 12.3.8 R to BIPRU 12.3.13 G. The liquidity policy should be approved by the society's board and be consistent with the society's strategic plan and its financial risk management policy statement. Societies should also have regard to the rules and guidance in GENPRU 1.2, and SYSC 4 to SYSC 7.
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BSOCS 3.2.5
See Notes
Liquidity policy statements should set out the board's objectives for liquidity risk management, the limits within which liquidity should be maintained, the range of treasury investments in which the society can invest and conditions under which authority is exercised. The document should establish the framework for operating limits and high level controls, and should set out the board's policy on credit assessment, ratings and exposure limits. Further guidance on the content of liquidity policy statements is set out in BSOCS 3.3.
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BSOCS 3.2.6
See Notes
A liquidity policy statement should be a working document and personnel in the treasury and settlement areas should be familiar with its contents, as should members of ALCO and/or the Finance Committee. When aspects of the policy or limits change, the policy document should be amended as frequently as necessary. The board should agree all substantive changes.
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BSOCS 3.2.7
See Notes
Boards should establish the objectives for liquidity risk management, including meeting obligations as they fall due (including any unexpected adverse cash flow), smoothing out the effect of maturity mismatches and the maintenance of public confidence. The need to earn a return on treasury investments may also be recognised as an objective, although this should be secondary to the security of the assets. Societies should also have regard to the rules and guidance in BIPRU 12.
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BSOCS 3.2.8
See Notes
If a society enters into a formal arrangement with a broker where securities are delivered to and from the broker and a customer agreement between the broker and the society is completed, the society should differentiate between advice and discretionary fund management. If the society has entered into an agreement involving the provision of advice, it should ensure that no transaction is undertaken without its prior consent. As with discretionary fund management, societies should make certain that all transactions are within the terms of its liquidity policy statement.
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BSOCS 3.2.9
See Notes
Guidance on the content of a liquidity policy statement is set out in BSOCS 3.3.Societies may, for convenience, wish to combine their liquidity policy statement with documentation required to satisfy the provisions of BIPRU 12.4 relating to contingency funding plans. If they do so, societies need to be clear how any combined document meets the separate requirements.
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BSOCS 3.3
Liquidity policy statement
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BSOCS 3.3.1
See Notes
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BSOCS 3.3.2
See Notes
The introduction section should include:
(2) the ratification process for obtaining board approval, including amendments to the policy statement as well as complete revisions; and
(3) arrangements for, and frequency of, review (which should be conducted at least on an annual basis).
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BSOCS 3.3.3
See Notes
The objectives section should set out whether the
FSA
has granted the society a simplified ILAS waiver of the kind described in BIPRU 12.6. A simplified ILAS BIPRU firm should still have a full liquidity policy statement.
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BSOCS 3.3.4
See Notes
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BSOCS 3.3.5
See Notes
The risk management section should include:
(1) exposure policies, including controls and limits as appropriate, for countries, sectors and counterparties, including exposure to brokers;
(2) the policy adopted for the use of credit ratings, stating the minimum quality acceptable and procedures for ensuring credit ratings are up to date, together with other information such as market intelligence which should also be reviewed when considering how to make treasury investments;
(3) the policy of assessment to be adopted towards sectors that are non-rated;
(4) operational and settlement risk, including: framework of board authorisation, delegations and operating limits (including, inter alia, dealer limits, transaction and day limits); deal authorisation, confirmation checking, segregation of duties;
(5) the policy in regard to use of repo and reverse repo facilities and the potential encumbrance of treasury investments held;
(6) procedures and criteria for exceptional overrides in relation to dealing, operational rules, limits and authorisation; and
(7) the policy for liquidity risk management information and reporting to the board.
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BSOCS 3.3.6
See Notes
The maturity structure section should include the policy for maturity mismatch and a "maturity ladder" of treasury investments. This should give a clear view of the maturity pattern of treasury investments to be followed, showing the maximum proportions to mature within each time band. In relation to a society which is a simplified ILAS BIPRU firm, there should be a clear policy with regard to managing the peak cumulative wholesale net cash outflow over the next 3 months in order that an adequate liquid assets buffer is maintained.
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BSOCS 3.3.7
See Notes
The categories of assets and activities section should set out the society's policy for the following:
(1) assets held in the liquid assets buffer;
(2) inter-society and local authority deposits;
(4)
stock lending;
(5) mortgage backed securities (including, where applicable, US) mortgage backed securities and covered bonds;
(6) foreign currency securities and the handling of foreign currency exposures (for those on the extended, comprehensive or trading approaches);
(7) commercial paper;
(8) bank deposits, certificates of deposit and other bank securities; and
(9) collateral eligible for use in the Bank of England's open market operations and discount window facility.
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BSOCS 3.3.8
See Notes
The society's policy for membership and use of any clearing system or depository should be set out clearly, including a section dealing with authorisation and operational controls.
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BSOCS 3.3.9
See Notes
Liquidity implications and the role of standby facilities should be included in the policy statement.
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BSOCS 3.3.10
See Notes
The role of external professional advisers should be clearly stated, where applicable.
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BSOCS 3.3.11
See Notes
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BSOCS 3.3.12
See Notes
This table belongs to BSOCS 3.1.1 G and sets out the criteria which societies should use in developing the review of financial risk management, as detailed in BSOCS 1.15. It is designed to draw management and supervisory attention to areas of a society's business model which are different from the
FSA's
general expectation for societies on their respective treasury management approach. Societies should expect their supervisors to focus in greater detail on those areas of difference, to identify whether business risks and controls are aligned and if not to develop plans to address the mis-alignment. As such, these expectations should not be interpreted as hard limits but as input into establishing appropriate policies and the basis for supervisory dialogue.
TREASURY INVESTMENTS
TREASURY INVESTMENTS
| ADMINISTERED APPROACH | ||
| TREASURY INVESTMENTS | Bank of England reserve account | No max |
| Call deposits: bank | No max | |
| Term deposits: bank (includes CDs) | Max 15% SDL | |
| Term deposits: societies | Max 10% SDL | |
| Term deposits: Local Authorities/Regional Gvt | Max 10% SDL | |
| Gilts <3 years | No max | |
| Treasury bills | No max | |
| Designated money market funds | No max | |
| Qualifying money market funds | No max | |
| Bank of England CAPACITY | Reserve account Standing deposit facility (if eligible) | |
| MINIMUM LIQUIDITY LIMITS | Simplified buffer requirement | |
| CURRENCY | Sterling only | |
| MATCHED APPROACH | ||
| TREASURY INVESTMENTS | Bank of England Reserve account | No max |
| Call deposits: bank | No max | |
| Term deposits: bank (includes CDs) | Max 15% SDL | |
| Term deposits: societies | Max 10% SDL | |
| Term deposits: Local Authorities/Regional Gvt | Max 10% SDL | |
| Gilts <5 years | No max | |
| Treasury bills | No max | |
| Designated money market funds | No max | |
| Qualifying money market funds | No max | |
| Reverse repo (Gilts only, after agreement with supervisor) | Up to limits above | |
| Bank of England CAPACITY | Reserve account Standing deposit facility (if eligible) | |
| MINIMUM LIQUIDITY LIMITS | Simplified buffer requirement | |
| CURRENCY | Sterling only | |
| EXTENDED APPROACH | ||
| TREASURY INVESTMENTS | Bank of England Reserve account | No max |
| Call deposits: banks | No max | |
| Term deposits: banks (includes CDs) | Max 15% SDL | |
| Term deposits: societies | Max 10% SDL | |
| Term deposits: Local Authorities/Regional Gvt | Max 10% SDL | |
| Gilts <5 years | No max | |
| Gilts >5 years | Max 5% SDL | |
| Supranational Bonds <5 years | Max 5% SDL | |
| Treasury bills | No max | |
| FRNs, MTNs or fixed rate bonds <5 years | Max 5% SDL | |
| UK RMBS (senior securitised position only) | Max 5% SDL | |
| UK covered bonds (CRD compliant only) | Max 5% SDL | |
| Designated money market funds | No max | |
| Qualifying money market funds | No max | |
| Reverse repo | Up to limits above | |
| Bank of England CAPACITY | Reserve account Standing deposit facility OMO counterparty (optional, subject to BoE acceptance) | |
| MINIMUM LIQUIDITY LIMITS | Simplified buffer requirement or individual liquidity guidance if a standard ILAS BIPRU firm | |
| CURRENCY | No less than 99.5% of total balance sheet assets and liabilities denominated in Sterling, US$ or € (whether on simplified buffer requirement or individual liquidity guidance if a standard ILAS BIPRU firm) | |
| COMPREHENSIVE and TRADING APPROACHES | ||
| TREASURY INVESTMENTS | Self-defined list based on market depth and marketability (subject to satisfying the requirements of BIPRU 12) | Own defined limits |
| Bank of England CAPACITY | Reserve account Standing deposit facility OMO counterparty (subject to BoE acceptance) | |
| MINIMUM LIQUIDITY LIMITS | individual liquidity guidance | |
| CURRENCY | Any traded currency | |
| In this table: CDs = certificates of deposit FRN = floating rate note issued by bank or building society ILAS = individual liquidity adequacy standards MTNs = medium term notes OMO = open market operations RMBS = residential mortgage backed securities Treasury Investments - all treasury investments including those held within the liquid assets buffer as required by BIPRU 12.7 In relation to minimum liquidity limits, a society that is a simplified ILAS BIPRU firm should note that the simplified ILAS approach does not relieve a simplified ILAS BIPRU firm from the obligation to hold liquidity resources which are adequate for the purpose of meeting the overall liquidity adequacy rule or from the obligation in BIPRU 12.3.4 R to assess and maintain on an ongoing basis the adequacy of its liquidity resources. | ||
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