Since the beginning of 2018, governments around the world have been making their financial forecasts and treasurers are poring over them to try and spot any indicators as to how funding costs are going to move over the coming months.

Despite record cash reserves in the corporate world, creating the right balance in external future funding remains a key concern. Deciding on the right options is constrained by the regulatory limits on banks post the financial crisis and the continuing low-yield environment, and the choice of bank loans or bonds is ever more difficult. Some treasurers will even be looking at other options to the traditional sources of funding.

Rates

On the surface, given the level of global cash holdings, the question as to whether corporates should invest in projects, acquisitions and internal growth arises. An analysis of the numbers explains why this is not an option for many companies. Worldwide corporate cash concentration research shows that 80 percent of the world’s corporate cash reserves are held by a third of registered companies, and even within these, event-financing is at low levels.

All of this means that companies are still dependent on external funding.

As mentioned above, regulation has had an impact in creating a cautious mood among treasurers, and increasingly they will monitor counterparty risk. Equally, banks have been required to increase their capital and improve their liquidity. This has influenced the banks’ offers to customers and is impacting on loan pricing and its availability.

Despite this caution, banks remain keen to loan, but much of the demand is driven by treasurers looking to take advantage of the low cost of loans.

The availability of cheap money is, however, a time-limited factor. Starting in December 2015, the US Federal Reserve has raised interest rates six times with more predicted while the Bank of England announced its first rate rise in more than ten years in November 2017. Experts predict the European Central Bank will follow suit and the Bank of Japan is reducing bond-buying with the implication that rates will rise in due course.

Yield

Should treasurers then they be looking at the bond route? Research on corporate funding indicates that treasurers fall in and out of love with bonds over cyclical periods, and hence there has been talk of a current bond bubble.

Despite inherent anxiety, the bond market has evolved since 2008 and the low-yield environment makes bond financing an attractive alternative to bank financing in many parts of the world. Corporates can expect to raise ten to 20 years’ funding at low rates with all-in coupons of 1-4% dependant on credit rating which compares well with shorter dated money from the banking market which can be over a five-year period. Bonds offer long-term funding at low rates, always an attractive option for treasury departments and boards.

The merger and acquisition market has also given bonds a boost over recent years, with banks encouraging companies to replace bank debt with bond equivalence as acquisition financing can be capital friendly for banks given that it is short term. These circumstances and indicators could drive the bond market further in 2018.

Recent low interest rates have also increased the commercial paper market which is an attractive source of short-term liquidity.

Most companies need a level of debt which the bank market is reluctant to support. The flexibility of the bond market currently gives them that, given current pricing levels. Some treasurers will feel that if ever there was a time to start financing through the bond market, it is now. However, the uncertainties on interest rates and the potential of a bond bubble should encourage them to keep a close eye on the diversity of their funding plans.

Given the uncertainty as to how costs of traditional forms of corporate funding are likely to move in the immediate future, treasurers will also be looking at other options. In recent years, the corporate funding mix has been influenced by peer-to-peer lending and the emergence of challenger banks which offer extra liquidity to smaller companies. Mid-size companies are also looking to lenders in the private equity space, and multi-nationals are seeking out private placement funding.

Again, it is low interest rates which are driving investors to look for alternative homes for their cash and encouraging them to look at different markets and this extra liquidity is driving down yields.

Treasurers thus have greater access to funds with a wider choice helping them to move away from bank lending – or at least allowing a greater diversification of funding in helping with risk management.

Simon Lynch is the owner of Treasury Talent.

Treasury Talent is a specialist treasury talent provider solely focussed on the treasury market with offices in Sydney covering Australia, Singapore covering Asia, and San Francisco covering California and the USA. To make contact simon@treasurytalent.net