Sunday, December 11, 2016

The NCUA Budget: Easy Money ... Part 10

An investment ladder...

Let's move on "up the ladder"... 

We're going to construct a hypothetical NCUSIF investment portfolio based on NCUA's current investment ladder "strategy": 1) a 10 year time horizon, 2) approximate equal investment amounts on each "step", 3) U.S treasury investments only, and lastly 4) when the investments in the first step (the "1 year step") mature you reinvest the maturing amount into the 10 year step (to maintain your ladder!). Now, probably the only one of the four parameters that might not make sense is #4, but we'll walk through that one, so don't run off!

The NCUSIF aggregate portfolio is around $13 billion with 10 (1 yr, 2 yr, 3yr, 4yr,... 10 yr) equal ($13 billion /10 = $1.3 billion) steps invested in treasuries. So here's how that would look:

Investments Mature in...

    1yr    2yr    3yr   4yr   5yr   6yr    7yr   8yr   9yr   10yr
    $1.3  $1.3  $1.3  $1.3  $1.3  $1.3  $1.3  $1.3  $1.3  $1.3    = $13B

... so there you have an equally balanced 10 year investment ladder, all invested in treasuries - ok?!

Now let's deal with #4... next year (a year from now!), when the "1yr step matures" you end up with $1.3 billion in cash to reinvest. What do you do? Well, remember next year every step in your ladder will be a "year younger" (know that sounds backwards!). In other words, your "2 yr step" now has a remaining term of only 1year, the 3 year step will mature in two years, etc.... think about it, a year from now "every step on the ladder shifts to the left" by a year.

A year from now, when the 1 year step becomes cash, you now have only a 9 step ladder! Which step is "empty"? That's right, the "10 year step" is now "empty"! So, to maintain your 10 year investment ladder, what do you buy with your $1.3 billion in cash (from the matured 1 year bucket)? That's right, since you are limited to treasuries and to maintain your "equal" ladder steps - you buy $1.3 billion in 10-year treasury bonds and you are back to the same ladder you see above! Got it? (Knew you could do it!)

You are now fully qualified to "manage" the NCUSIF "thoughtless ladder" investment strategy!

Simple - right? Yep, but can you see any problem coming that might cost you say $300 million to $600 million - or more?

(If you could avoid this would you "ACT"?)

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