Inflation continues to pummel the spending value of the U.S. dollar domestically. Proactive CFOs have begun to keep this top of mind when looking at their cash reserves. Many organizations, whether public or private, are sitting on cash to guard against an incoming recession or because they're waiting for the right opportunity to allocate it. Executives in both the public and private sectors have begun looking for ways to protect the long-term value of those funds but must choose wisely.

When asked how executives looking to protect their organization's cash can approach the matter, Dan Tolomay, CIO of Trust Company of the South, shared his thoughts on how finance can properly gauge risk/reward to make investments. According to him, the same rules apply to the corporate investor as the individual investor. 

“Risk and return are directly related,” said Tolomay. “When you bear more risk, you should expect a higher return. We think of risk as a spectrum with purchasing power risk at one end and market risk at the other. Being too conservative with cash can mean losing purchasing power to inflation. Getting too aggressive can lead to damaging losses.”

Daniel Tolomay, CIO, Trust Company of the South

Tolomay spoke to CFO about the necessity of being able to tolerate risk. Patience in seeing results from allocations is key, he said, while also being able to strategize with both short- and long-term goals in mind. Just as important is not getting caught up in day-to-day market fluctuations.  

“Risk tolerance has two dimensions: the ability to bear risk and the willingness to bear risk. The goal is to align them so that enough risk is taken to meet the goals, but that not too much risk is introduced where the plan could be abandoned under duress.”

We think of risk as a spectrum with purchasing power risk at one end and market risk at the other. Being too conservative with cash can mean losing purchasing power to inflation. Getting too aggressive can lead to damaging losses.” — Daniel Tolomay, Trust Company of the South

When asked about where executives can park cash reserves to counter inflation, Tolomay mentioned simple, conservative investments. “Money market yields track the Fed Funds rate, so there’s been an increase in return there,” he said. “The yield on the fund that we use has risen from 0.03% to 2.69% year to date."

For CFOs and treasurers looking for stable value, frequent liquidity, and floating yields, these types of funds are no-brainers, according to Tolomay. “Money market funds are great for cash needs where the timing is unknown. They provide a stable value, daily liquidity, and a floating yield that should rise as the Fed continues to hike.”

Steering towards conservative investing has been on the rise across the board since the start of the year, Tolomay explained. “Bonds have become a more attractive option,” he said. “Assets that had flowed from cash and bonds to riskier assets in search of a meaningful return may now reverse course.”

Boosting Investment Income

Organizations with large cash reserves, such as public municipalities due to an influx of federal dollars from the pandemic, have been finding ways to park their dollars in investments that not only protect them from inflation but produce dividends. Those dividends, unlike the investment principal, are not constrained by federal guidelines on how the money can be spent. 

"In 2021 and 2022, we have seen an infusion of cash like I've never seen before," Kevin Bueso, CFO of McHenry County, Illinois, told CFO. When his county received about $60 million in federal funding during the pandemic, Bueso said that he didn’t want to let the money just sit in a regular bank account and depreciate. "We came up with a strategy that allows us to put some of this funding to work," he said. 

Kevin Bueso, CFO, McHenry County, Illinois

One instrument in which Bueso and his team have invested the funds is mortgage-backed securities (MBS). Bueso believes the MBSs will pay dividends for the county in the long term. Despite their role in the 2008 financial crisis, mortgage-backed securities are a good example of an investment that can preserve the long-term value of large amounts of capital, he said.

"I know [MBSs] have a bad label,” said Bueso. “However, they're still out there, and they're safe, and they are yielding a lot more than a money market savings account or a CD [certificate of deposit].”

When evaluating investing risk, Bueso talked about a strategy where he and his team work within the parameters of both state and federal regulations while also trying to allocate toward investments on behalf of the county and within areas of the community that need funding. As inflation bears down on state budgets, the half a million dollars a year in dividends the county is getting off of investments is helping balance out some of those costs, Bueso said.

“[We say] how can we do this in a responsible manner, where, yes, we're helping our community, but at the same time we're realizing some serious investment income. We're experiencing a greater return on our investment, and we're funding a lot of projects with this investment income that is not tied to anything.”

Bueso said his county’s financial situation is taken into account when he evaluates some risks. As McHenry County has a history of strong internal economic policies and pledge agreements on investing, he believes the investment decisions are helping the county long term.

“We have very strong financial resources,” Bueso said. “We have a history of very strong conservative spending patterns. So, based on all of that, we feel like we have a lot of control over how to maximize cash flow.”