Making your reserves work harder

Ian Buss, director of Education Banking Consultancy, discusses how to make your reserves work harder in a low interest rate environment

We saw interest rates on deposits tumble during 2020 with many schools now seeing significant reductions in the interest they receive and getting a shock when existing fixed rate deposits mature, and they look to renew them.

In fact, we have seen some banks offering as little as 0.03% interest fixed for one year; putting that in perspective, depositing £1m for a whole year at this rate would return you just £300.

I have seen a significant increase in multi-academy trusts and independent schools seeking help in increasing their returns on reserves over the last couple of months and I’d like to share the top three most common areas we work on to help schools improve their interest earned.

1. An ‘investment policy’ that is fit for purpose

Many investment policies I see are out-of-date, unworkable, excessively restrictive or non-existent. An investment policy should reflect a (realistic) view of counterparty risk. If counterparty limits are stated, they should be workable; I’ve seen a policy which states that no more than £500,000 can be kept with any one bank when the school in question receives over £2m in funding each month, and has reserves of over £5m. They breach their policy with their current account and have not spread their reserves over 10 banks to meet their £500,000 per bank counterparty limit.

A policy that states deposits must be kept with a ‘AA’ rated bank is likely to be overly restrictive, or to not actually reflect the counterparty risk the school is prepared to take.

• Layering Deposits

Schools can access longer term rates, yet keep regular access to part of their funds, by layering multiple deposits over 12-month fixed terms, each with a different maturity date.

• Understanding historical and future cash flows

One of the first things we will ask our schools to do is to identify their month end balances over the last 12 months and use this information to prepare a forecast for month end balances over the coming 12 months. This will help identify historical and predicted ‘low balances’ allowing us to identify a spread of cash deposit accounts to give the liquidity needed and allowing for increased interest on reserves.

With interest rates so low at present, schools may think that reviewing their deposit strategy shouldn’t be a priority. I would suggest that any school with more than £1m in surplus total cash (current account balance plus deposit balances) at the month end would be likely to benefit significantly from reviewing their deposit strategy.

I recently worked with a school that had £3m sitting in a 32-day notice account; they were receiving interest of circa £900 per year (0.03%). Having reviewed their investment policy, and calculated historical and future month end balances, the school reviewed their liquidity requirements, and appetite for counterparty risk, and were able to explore bank deposits that will, at current interest rates, return them something in the order of £19,000 per year.

If you would like to update your investment policy, we have a draft policy document you can personalise and use without charge: www.educationbanking.co.uk/resources