More Than Zero

With short-term Treasury yields at rock bottom, companies are seeking higher returns for their cash.

Battered by volatile markets and burned by flaws in structured debt, companies face hard choices about where to invest cash. They commonly have three priorities now, say experts: liquidity, capital preservation, and transparency. “If an investment has the hint of structure, treasurers will pass on it,” says Karl D’Cunha, a senior managing director at Houlihan Smith & Co.

But if the only investments that meet newly conservative investment policies aren’t returning anything above the 25 basis points that Treasuries paid in late February, does the finance department dare start thinking about yield? It’s a tough call.

“Monetary policy is begging you to take more risk. There’s no yield left for anything that is devoid of risk,” says Tom Luster, a co–portfolio manager of the Eaton Vance Institutional Short-Term Income Fund.

If a company simply wants a guarantee that its cash will be safe and believes that the U.S. government is a reliable guarantor, then by all means it should stash the funds in Treasuries. But if it wants to earn more than a bare minimum of yield and can live without an ironclad guarantee, there are a number of relatively safe, liquid alternatives — some with a degree of government protection.

Federal Reserves

One of the safest plays for corporate treasurers these days is putting money in demand deposit accounts to get the earnings credits that banks pay business customers. Such credits offset bank service charges. Also, because of the Federal Deposit Insurance Corp.’s new guarantees on these accounts, “companies get a commercial banking rate at a government risk level,” says Barry Barretta, a principal at Treasury Strategies.

Here are some other government-backed options that offer a risk premium:

Government-sponsored enterprise (GSE) debt. The discount-note programs of mortgage investors Fannie Mae and Freddie Mac, as well as the Federal Home Loan Banks, can be feasible substitutes for T-bills, says Lance Pan, director of investment research at Capital Advisors Group, an institutional-investment firm. The giant mortgage investors are under conservatorship through 2009. Although their debt doesn’t carry the explicit backing of Washington, experts say they are more than comfortable owning these notes in the short part of the yield curve. The New York Federal Reserve Bank is buying back GSE debt on a weekly basis, points out Brad Airing, managing director in short-term fixed income at Banc of America Securities. The notes, ranging from overnight to three-month maturity, carry slightly higher yields than Treasuries and are more liquid than many corporate names, Pan says.

Companies are moving cash to government and money-market funds in response to low Treasury yields.

Government money-market funds. These funds consist of debt issued by GSEs and government agencies. They earn higher yields than Treasuries. But government money funds also require more due diligence, Pan says. Some invest in government securities longer than one year, which can pose risks if shareholder redemptions rise or interest rates spike. In addition, because government money funds use repurchase agreements, investors need to be aware of the types of collateral involved (Treasury bills or something riskier) and what the fund’s policy is on overcollateralization, Pan says.

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