Research findings: main concerns
The pressure to sustain services and grant giving “at a time when the ability to generate income is tougher” was a key finding from this year’s study.
Charity trustees and directors are “picking up the slack after a decade of austerity” and feel the pressure of “delivering contracts that always want more for less”. As one of the trustees of a service- providing charity explained: “We offer a lot of really crucial services, which would probably not be delivered if we weren’t providing them. It is particularly worrying with all the government cut-backs although we don’t receive any government funding; we rely on the generosity of the public.”
A respondent of a grant-making charity concurred: “We should be adding the cream on top of the milk, but it’s not like that; we are very worried about what’s going on in hospitals and medical schools and the fact that there is insufficient investment, particularly in some forms of equipment. It puts more pressure on us.”
The research found that for the majority (64%) of respondents, their main concern was the need for income (similar to findings from our 2017 research), followed by investment risk (cited by 36% of respondents – up from 27% in 2017) and political uncertainty (cited by 35% of respondents – up from 29% in 2017). One in five respondents (21%) identified other main concerns, including: “changes in government policies”, which impact on service provision and the procurement of contracts, a “lack of smaller public sector contracts”, “maintaining current expenditure in line with budgets”, and “a shortage of volunteers”.
The 2019 survey shows a significant increase in concern about the risk of global recession (up to 26% of respondents from 11% in 2017). Numerous respondents expressed worries about the potential impact on their investment portfolio and financial planning:
Grant-making charity respondents suggested that they would be in a stronger position than service providers to cope with an economic downturn: “We will weather any storm as it comes.
There are fluctuations in markets and periods of volatility but given the distribution of our assets (predominantly property and UK equity) we are well prepared.”
Grant-making charities can effectively ‘cut their cloth’ accordingly and if necessary, make fewer grants. Service-providing charities do not have this flexibility. “If there were a catastrophe then we’d just give away a little less money. We’re in an incredibly fortunate and protected position but other charities, smaller trusts and fundraising charities are in a very, very different position.”
Simply staying ‘in business’ and remaining viable was reported as an overriding concern. “The charities I work with hope that they remain charitable and relevant to today’s society. Their biggest concern is sustainability – how they continue for the foreseeable future in light of the increasing pressure on their services, or indeed grants, at a time when the ability to generate income is tougher,” said one consultant.
The research findings demonstrate that investment can never be viewed in isolation and that these fundamental concerns are inextricably linked to the way in which charities manage their finances and to how they run their operations.
Risk management: “more volatility, lower returns
The prolonged bull market has benefited many investors but respondents were unanimous in believing that it will not last for much longer: “people are expecting a downturn”.
As the consultants interviewed for the research explained: “Most charity managers have a substantial investment into equities and global equities have done well over the last five years.”
When asked what their biggest concerns were in relation to investment risk, respondents were most concerned about low growth/low interest rates and volatility, cited by 48% and 44% of respondents respectively. Whilst these were also the headline concerns in 2017 it is worrying that the proportion concerned about absolute loss has risen from 1 in 4 (23% in 2017) to 1 in 3(31%) this year.
Looking at the findings by charity type, service-providing charities are more likely to employ more staff and volunteers, and/ or operate from bigger premises, and are understandably more concerned than grant-making charities about liquidity. 16% of service-providing respondents cited this compared to just 2% of grant makers.
Overall, inflation is slightly less of a concern (19% in 2019 compared to 22% in 2017). Rather, the research indicates that the reverse – deflation – is a significant concern. While service providers suggested that “we’re not heading for 10% inflation anytime soon” many were very worried about the pressures of rising costs: “Our problem is trying to cover our costs in a low inflationary environment.”
“Interest rates have been so low for so long… given the fiscal deficits and the level of borrowing of the western world economies; I can’t see inflation picking back up at all. I’m more worried about deflation.”
“While inflation has not been a problem, the returns have.”
Respondents are poised for potentially difficult times ahead: “None of us know what’s going to happen over the next couple of years, but let’s expect it’s going to be tricky.”
Should investment managers do more to explain risk?
Recognising that risk management is a potentially complex subject, and that although volatility can be harmful it can also bring opportunity, we asked: ‘Should investment managers do more to explain the implications of volatility versus absolute risk?’ More than 1 in 3 (36%) replied ‘yes’ and 45% ‘possibly’.
Typically, the respondents we spoke to in depth followed a total return strategy and were confident in their understanding of risk, choosing to take a long-term view: “Sometimes, some of the investments which might be successful in the longer term don’t return us any income but we’re willing to take that risk if it is deemed to be a worthwhile investment for the growth of the portfolio.”
“We’re relatively risk-averse, but with a long-term view, that means we can put more money in equities than someone who’s risk-averse with a shorter-term view.”
Funding and income
Only 50% of respondents were confident that funding levels will enable them to meet their charity objectives.
The research found a significant difference in levels of confidence between grant makers and service providers: 61% of grant-making charities compared to 30% of service providers were confident that their funding levels would enable them to meet their charity objectives. As one grant-making charity respondent said: “We are not too worried about the future of the fund unless there’s some absolute disaster because by and large what we have taken out to spend each year has been reasonably sustainable.”
The biggest risks to future income
Conversely, grant makers were significantly more concerned than service providers about ‘a slowdown in the economy’ as being a risk to future income, which was identified by 61% of grant maker respondents compared to 45% of service providers.
Trustees commented on the potential loss of government funding, rising operating costs, the difficulty of covering costs “in a low inflationary environment” and the negative implications of political uncertainty.
“We have a baseline level of dividend income we like to achieve annually from the portfolio but there are challenges around paying for inflation and all the other things that are on the go with government at the moment. We fear what the implications will be of all the political uncertainty.”
“We’re not expecting as much income as last year.”
How can investment managers help?
Despite a lack of confidence among respondents as regards funding, the majority of respondents (70%) had not discussed a different approach to managing their portfolio (in relation to income) with their investment manager.
This is a similar finding to our 2017 research, which surprised us then and does so now, especially as two out of three responding charities said that advice from their investment managers was a key influence in determining investment reviews and that 1 in 3 (36%) expressed a desire for investment managers to do more to explain the implications of volatility versus absolute risk. It suggests that for some charities the main income and budget discussion is sitting outside those that address investment strategy. This could be an opportune time to bring such discussions into annual planning meetings, to allow funding objectives to be considered within the context of investment strategy and reserves management.
Choosing to adopt a total return strategy can be a catalyst for such discussions, but as one of the consultants said: “Charities may say they’re ‘total return’, but they are very focused on the income. That’s where the managers need to help them and say, ‘set a withdrawal for your budgeting annually.’”
Cash management also has a part to play in such discussions. 82% of respondents hold their cash reserves with a bank and 38% with their investment manager in an escrow account. 71% of respondents receive interest of 0.5% or less on their cash deposits; one in three (34%) receive less than 0.25%. Charities do not necessarily consider their cash reserves as part of their investment strategy: only 18% currently use a firm to manage their long-term investments and their cash deposits. 62% do not express any interest in doing so.
Respondents were well aware of the importance of good cash management, striving to maintain a balance between prudence and the best possible use of ‘spare’ cash whenever possible.
“We’ve seen more and more charities, large and small, identify what’s been termed a ‘strong box’ for 18 months’ worth of grant payments or however they want to manage themselves so that they’re not having to worry about the markets over the shorter term,” said one consultant.
Are some charities too cautious?
But are some charities too cautious? Are they holding too much cash in low-earning cash reserves? One of the consultants we spoke to believes so: “Charities need to think hard in terms of their spending policy. A lot of charities have actually got more money than they need; their reserves are higher than their long-term average, because they’ve been cautious. There is an argument in these cases for them to invest in fundraising or other areas to raise the profile of the organisation or help more beneficiaries. It’s a good thing and may well reap benefits in terms of the charitable income in the future”.
The spending and capital preservation balancing act
The difficulty of achieving the right balance between spending and capital preservation was keenly felt among the trustees and consultants interviewed, particularly in light of the view that assets have become more expensive and covering costs in the current low interest rate environment is more challenging: “Trying to get anything more than inflation is generally quite expensive.
Equities are looking ridiculously expensive. Bonds, people are very nervous about. Trying to find sources of good, sustainable income is difficult from an investment point of view. And clearly if you’re going to be fundraising, employing staff and doing it on that basis, is also expensive.”
The consultants we spoke to urged charities to: “Keep checking that spending plans are viable … on what you want to achieve and discussing the implications of how it might be invested”.
The value of investments can fall and you may get back less than you invested.