LOCAL GOVERNMENT LOCAL GOVERNMENT INVESTMENT STRATEGIES INVESTMENT STRATEGIES

PUT NON-PERFORMING ASSETS IN YOUR GENERAL FUND TO WORK

R. Strand Kramer, Jr. Ruth H. Webb First Kentucky Securities Corporation February 14, 2014

INVESTING PUBLIC FUNDS: INVESTING PUBLIC FUNDS: KENTUCKY LAWKENTUCKY LAW

• KRS 66.480 allows these investments:• *Obligations of the US, its agencies and

corporations• *FDIC-insured or collateralized certificates of deposit

or interest- bearing bank accounts• *Uncollateralized CDs issued by highly rated banks• *Banker’s acceptances for highly rated banks• *Highly rated Commercial Paper• *Bonds or certificates of the Commonwealth or its

agencies• *Securities issued by highly rated state or local

government• *Mutual funds of an eligible company

2

Bond RatingsStandard & Poor’s (also Fitch) Moody’s Interpretation

Bank-grade (investment-grade) bonds

AAA Aaa Highest rating. Capacity to repay principal and interest judged high.

AA Aa Very strong. Only slightly less secure than the highest rating.

A A Judged to be slightly more susceptible to adverse economic conditions.

BBB Baa Adequate capacity to repay principal and interest. Slightly speculative.

Speculative (noninvestment-grade bonds)

BB Ba Speculative. Significant chance that issuer could miss an interest payment.

B B Issuer has missed one or more interest or principal payments.

C Caa No interest is being paid on bond at this time.

D D Issuer is in default. Payment of interest or principal is in arrears. 3

LOCAL DECISIONSLOCAL DECISIONS

• INVESTMENT POLICY• The governing body

adopts a written policy and designates those authorized to invest. It sets standards and procedures for making and monitoring investments and qualifications for agents.

• MANAGING RISKS• Concentration of

credit risk• Custodial credit risk• Issuer credit risk• Interest rate• Inflation• Call• Prepayment

4

ALLOWED INVESTMENTSALLOWED INVESTMENTS

U.S. TREASURY SECURITIES Low riskLow returnSold at public auctionLiquid– may be sold in the market before

maturityInterest earned is federally taxed, exempt

from state and local taxes

5

U.S. TreasuriesU.S. Treasuries

TREASURY BILLS TREASURY NOTES

Maturity less than one year (4, 13, 26 wks)

Sold at a discount; mature at par (face value)

Difference between purchase price and par is the interest earned

Maturity between 1 year and 10 years (currently issued at 2, 3, 5, 7, and 10 years)

Pay interest every six months

6

U.S. TreasuriesU.S. Treasuries

TREASURY BONDSTREASURY INFLATION-PROTECTED SECURITIES (TIPS)

Maturities over 10 years

Pay interest semi-annually

Mature at parAuctions are held

quarterly

• Offered for 5, 10 and 30 years• Principal increases with

inflation and decreases with deflation, as measured by the CPI

• At maturity, investor is paid the greater of the inflation-adjusted principal or original principal

• Pay interest every 6 months• Interest is federally taxable

when received

7

U.S. TreasuriesU.S. Treasuries

SEPARATE TRADING OF REGISTERED INTEREST AND PRINCIPAL OF SECURITIES (STRIPS)

Investors may buy and sell the interest and principal components of eligible Treasury notes and bonds as separate securities. Each interest payment and each principal payment becomes a “zero-coupon” security which does not pay periodic interest payments.

8

MUNICIPAL BONDSMUNICIPAL BONDS

• Issued by a state or local government to finance capital expenditures

• Investors receive fixed principal and interest payments (generally semi-annually) for the life of the bond.

• Reliable income stream• Safety of principal (be alert to credit ratings)• Income may be federally tax exempt and

state tax exempt in the state of issue unless private purpose (e.g., football stadium)

9

MORTGAGE-BACKED SECURITIESMORTGAGE-BACKED SECURITIES

• Investment in a pool of mortgages• Investor receives monthly payments which may

include some principal as well as interest• Backed by U.S. government-sponsored

corporations (GNMA, FHLMC, FNMA). Only GNMA is backed by “full faith and credit” of the U.S.

• Safety, income, possible capital appreciation• May be sold before maturity in the market• Interest is higher than Treasuries; is taxable• Mortgages may be prepaid, so monthly income

may vary. Prepayments are passed to investors.

10

MONEY MARKET SECURITIESMONEY MARKET SECURITIES

Fixed-income securities with short-term maturities (one year or less)

Highly liquidHigh degree of safetySuitable if invested in authorized

instruments

11

MONEY MARKET SECURITIESMONEY MARKET SECURITIES

Commercial Paper Banker’s Acceptance

Unsecured loan Issued by a highly rated

corporationMaturity less than 9

months Issued in $100,000 and

higher denominationsSold at a discount and

matures at par

• Secured by a bank letter of credit

• Issued by a highly rated corporation

• Used between foreign trading partners

• Actively traded in the secondary market

• Sold at a discount and matures at par

12

MONEY MARKET SECURITIESMONEY MARKET SECURITIES

Repurchase AgreementNegotiable Certificate of Deposit

• One bank or dealer sells securities to another with agreement to repurchase at a set time and price.

• Interest is the difference between sale and repurchase prices

• Similar to a fully collateralized loan

• Lender can sell the securities if the issuer defaults

Offered by a bank in large denominations ($1 mm up)

Interest rate and maturity date are negotiated

Unsecured promissory note of the bank

May be traded in secondary market before maturity

13

MUTUAL FUNDSMUTUAL FUNDS

• Each fund pools investor resources to purchase a number of securities

• Each fund has a different strategy and investment objective (Low risk funds have lower returns)

• A load fund charges for shares, plus a sales fee• A no-load fund does not have a sales fee, but has

management fees• Instant diversification• May add to account any time• Professional managers make investment decisions• Fees are charged regardless of success

14

MONITORING YOUR PORTFOLIOMONITORING YOUR PORTFOLIO

Your investment policy includes reporting guidelines: to whom the financial advisor reports, how often, and essential information to report.

At a minimum, you want to know: (1) Are we investing in authorized instruments? And (2) How are our investments performing?

The report should include a list of every investment with price, yield and maturity; monthly income, fees and expenses; performance comparisons with market benchmarks.

Routine reporting will allow officials to monitor trends over multiple reporting periods.

15

The Global The Global Economy 2014Economy 2014“Most economies are doing better than they were a year ago. They should be able to improve further in 2014. It is unlikely the U.S. will slide back into recession in the next 12-18 months. Most stock markets will deliver positive returns and bond yields will move somewhat higher.”Global Insight- 2014 Outlook

U.S. growth reached a 3.2% annual rate last quarter on strong consumer spending.

Dow Jones Industrial Average was up 26% in 2013, best since 1996.

Average unemployment improved to 7.43% for 2013, compared to 8.08% for 2012.

A Congressional budget deal in January 2014 lessened the sequestration cuts and policy gridlock that were a drag in 2013.

UK and Eurozone pulled out of their recessions and China’s growth stabilized.

Long-term unemployment and stagnant pay rates in the U.S. are cause for concern.

Manufacturing, construction and home sales remain below optimal.

The Dow lost 5.6% during January 2014 due to weakness in emerging markets, the Federal Reserve taper of economic support, and profit taking.

16

Three Catalysts Drive U.S. GDP in Three Catalysts Drive U.S. GDP in 20142014

ENERGY DEVELOPMENT Shale oil extraction is ramping up so quickly,

the U.S. is on track to become the world’s leading oil producer by 12/15.

MANUFACTURING RESURGENCE Foreign wages growing faster than foreign

productivity and lower relative energy costs allow U.S. corporations to expand capacity at home.

RECOVERY IN HOUSING Home prices have risen for 22 months straight.

17

Kentucky Kentucky Economy in 2014Economy in 2014“Unemployment in the Commonwealth should continue to fall from the 8.2% rate recorded in November 2013. The service sector is projected to show the most growth. Manufacturing and construction will increase as Kentucky automobile manufacturers enjoy the rebound in the U.S. market.”Governor’s Office for Economic Analysis

During the 2007-2010 recession, Kentucky lost 120,000 non-farm jobs.

At the present rate of growth, it will take 4 more quarters to regain pre-recession peak employment.

Kentucky’s labor market is shrinking due to baby boomers retiring and individuals without skills leaving the job market.

Transportation sector grew 4.2% in 2013 and remains the state’s top industrial sector, employing 44,613.

Kentucky exported $23 Billion in products and services in 2013; 2nd best growth in U.S.

18

Kentucky Kentucky Economy in 2014Economy in 2014

“The Kentucky agricultural outlook is more favorable than the national farm projections, especially if the equine market remains firm and if stored surplus grain from 2013 sells well in 2014.”University of Kentucky Cooperative Extension Service

In 2013, with nearly ideal growing conditions across the state, ag sales topped $6 billion, a record.

Livestock led the growth due to strong equine, poultry and cattle markets. Profitability should continue with strong prices and lower feed costs.

Tight supplies of quality burley tobacco and demand for smokeless should keep tobacco value near post-buyout highs.

There are new markets and growing demand for local fruits and vegetables.

Kentucky is among the top 3 leading producers of hardwood sawlogs in the nation.

19

FIXED INCOME INVESTING FOR FIXED INCOME INVESTING FOR 20142014

Average 10-year AAA municipal bond yield for 2013 was 2.42%.

Slow, steady progress for the U.S. economy in 2014 means reasonable rate targets of 2.5% to 3.0%.

Default rate for munis rated by Moody’s over past 5 years is .03%.

Revenue bonds may be tied to an issuer’s revenue stream. They have high credit quality, low default rate, attractive yields.

Focus on high credit quality. Ladder maturities to match cash-flow needs. Be patient to take advantage of higher yields when special situations arise.

20

CONTACT USCONTACT US

R. Strand Kramer, PresidentRuth H. Webb, Public Finance AssociateFirst Kentucky Securities CorporationMain and Ann Streets, Frankfort, KY 40601502-875-4611stank@firstky.com or ruthw@firstky.comwww.firstky.com

21