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Brexit – What does it mean for Corporate One?

June 27, 2016 -- Last Friday’s geopolitical bombshell, also known as Brexit,  wherein the majority of the British population decided to exit the European Union, caused financial markets around the world to plummet. More than anything, this downturn in the financial markets is due to the uncertainty around the impacts this decision will have on the global economy. At Corporate One, we don’t want you having any uncertainty about us and how the fallout from the Brexit might affect our ability to serve you and your members. So I wanted to be proactive and take this opportunity to talk a little bit about the Brexit and let you know how Corporate One has prepared for these types of financial market fluctuations and how we stand ready to assist you during this time of uncertainty.

In regard to Brexit, the unanswered question is what will the United Kingdom’s new relationship with the EU look like and how bad will the UK’s economy suffer from this departure? The remaining 27 countries that comprise the EU must decide how to treat Britain, the second largest economy within the EU, in the divorce talks and what steps are needed to reinforce confidence. There are a lot of unanswered questions at this point and the financial markets hate uncertainty. Markets  are likely to be very volatile over the coming months with investors flocking  to safety (the US Treasury market). Liquidity, or cash, is “king” during these times of uncertainty and it also is the key to surviving a crisis situation, as we all witnessed during the 2008 financial meltdown.

Corporate One has always taken liquidity very seriously and has positioned the balance sheet to ensure that we have sufficient cash on hand and/or can easily convert assets to cash, if needed. A year ago the Investment Department at Corporate One made a conscious decision to reposition the balance sheet with more of a “risk-off” trade, meaning that instead of purchasing assets with a credit risk component, the Investment Department predominately purchased assets that were US government guaranteed, i.e., agencies and SBAs. This decision was made due to growing concerns that the global markets were experiencing contraction and we were concerned about the implications this could have on the US economy. Why is this decision important? As you may recall during the 2008 liquidity crisis, all asset classes including agencies couldn’t find a bid or a buyer, as most financial institutions hoarded cash (remember cash is “king” during uncertain times). And the safe haven for liquidity during the 2008 crisis, with government guaranteed assets, was the Federal Home Loan Bank (FHLB).

The following table illustrates the changes in our government guaranteed assets and hence Corporate One’s liquidity position with the FHLB year-over-year as of May (millions):

FHLB Collateral

May 2016

May 2015

Government Agencies

$604.5

$434.0

Gov’t Guaranteed SBAs

$380.3

$251.0

Total

$984.8

$685.0

In addition to the above assets that can be used as collateral against our FHLB line of credit, Corporate One has a substantial cash position that can fluctuate throughout the month between $500 million to $1.8 billion. The volatility in our monthly cash position stems from our members settlement activity throughout the month and our members drawdown on their overnight deposits to fund that settlement.

Another very important funding source for Corporate One and its members is our ability to access the Federal Reserve’s discount window. During the financial crisis of 2008, Corporate One gave up its banker’s bank status in order to gain access to the discount window and after the crisis, Corporate One felt it was prudent liquidity management to retain access to it. As a result, the remaining securities on our balance sheet that can’t be used as collateral against our FHLB line of credit can be used as collateral against our primary line of credit at the Federal Reserve. Further, Corporate One has other external funding sources in addition to these two lines of credit through fed funds and REPO lines; however, during a liquidity crisis financial institutions are very reluctant to lend against those lines of credit.  Hence, the reason I didn’t include those other external funding sources as a viable liquidity source. I also didn’t include selling securities as a means to convert assets to cash due to the illiquidity in the marketplace for assets of any type during a liquidity crisis. These securities are well performing securities, but when investment bankers and other investors are hoarding cash, it may be very difficult to get a respectful bid, or any bid for that matter. 

Lastly, you may be asking yourself, “is access to my line of credit at Corporate One available if I need it?” The answer is yes! The two primary questions you should ask is, how easily can Corporate One convert its assets to cash and how many lines of credit does Corporate One have relative to its asset size? The answer to the first part of this question was answered above, we are ready and have the ability to convert our assets to cash, if needed. As for the second question, Corporate One also has been very prudent in the extension of credit to its members by insuring that we have the balance sheet capacity to extend liquidity against our members’ lines of credit. I’m happy to say that we have only extended credit up to the asset size of our balance sheet. In other words, with the ability to convert our assets to cash coupled with our strong cash position, we are very confident that we are well positioned to fund your liquidity needs should they arise.

I’m not trying to alarm anyone, as the impacts of the Brexit on the global economy are yet to be played out. However, when there is a potential for a disruption in liquidity, it is prudent in the early stages to brush off your liquidity contingency plans. And, since Corporate One may be part of your liquidity solution, I wanted to assure you that we are in a very positive liquidity position and stand ready to fund any of our members’ liquidity needs.

If you have any questions or would like to discuss this further, please do not hesitate to call me at 614/825-9312 or tcantrell@corporateone.coop

Tammy Cantrell
Executive Vice President, Asset/Liability Management