Investment Banking |
June 16Importance of maintaining liquidity and enhancing financial capacity
A company’s financial strategy is
developed, keeping in mind certain constants and changes in the
ever-inconsistent economy. With an unprecedented crisis never announces itself
beforehand, companies have to look well beyond their traditional credit sources
for maintaining free cash reserves. Liquidity Investment solutions provide
clients an operationally efficient way to set pre-defined investment parameters
to meet their liquidity management objectives. The inadequacy of liquidity
causes the market value to crash and has important practical implications as
well. Investment Banks dealing in Liquidity and Debt Restructuring have to
fine-tune the balance between cash inflows and outflows to maintain a healthy
fluidity between operations. Funding liquidity refers to the ability of a
financial intermediary to raise cash on demand within a brief notice.
Investment banks and fund managers
have the duty to diligently manage such difficulties to meet an investor’s
redemption frequencies. But maintaining many cash-reserves is also bad as it
drags down returns. Funding liquidity refers to the ability of a financial
intermediary to raise cash on demand within a brief notice, it is merely now
maintaining a tripartite of balance among factors like holdings, liabilities,
and market. Banks and institutional investors normally invest in a variety of
assets with varying degrees of liquidity. Implying they can pay out investors
willing to redeem or opt-out. Also, these investors also enjoy Liquidity
Premium- which is the additional value gained from holding long term illiquid
assets.
One of the primary aims of liquidity
management is to avoid situations where illiquid assets are forced to be sold
on high discounts, to meet the cash crunch on the business faces.
RBI in its recent circular in 2019
has published liquidity risk management guidelines (LRM) mainly focusing on
NBFC sectors. The circular focused on aligning responsibilities on management,
CFO’s as a foolproof model around liquidity risk is not yet in place. NBFCs
rely on brief term funding and high-interest rates. This circular sets forward
a regime, post-IL&FS scam, alters the maturity profile and mismatches
associated with different brackets.
Value creation is important in
liquidity structuring, often associated with capital risk, which is the balance
between availability of cash and its efficient use. The creation of values is
mainly done through management and financiers working together. Methods include
improved product pricing, reduction of capital cost, and enhanced risk planning
and performance.
Excellent practices suggesting using
pre-emptive tools like analysing investor behaviour, cost protection methods
like swing pricing, etc. Also, Asset protection; preserving fairer values upon
sale, segregating specific assets for better management ensuring value
preservation. Since liquidity touches on many aspects of investment management
from asset allocation to rebalancing policy, managers and companies should
scrutinize their liquidity profile. Fund managers and investment banks have a
high threshold to satisfy their liquidity and investor interest. Commonly used
methods are:
? Liquidity
analysis
? Stress
Testing
? Deferred
Redemptions
? Fund
Suspension
Placing a successful aversion to an
approaching Liquidity Crisis it is very significant to have investments in a
variety of sectors, sound internal control, and developing market-specific
scenarios to gauge sensitivity, etc. It is therefore essential to adjust the
parameters and threshold values of a risk monitoring tool to peer group
specific levels to assure a top level of reliability of the monitoring system.
Businesses having a liquidity cushion may survive and plan flexibly to gain
lost opportunities and would deem to have a considerable competitive advantage.
Close management and careful fine-tuning of the liquidity risk framework are essential
to help the firm survive in extreme stress and optimize assets without undue
strain in less stressed conditions.