Finance and Audit Committee Meeting   1/12/2024

Thank you.

No problem.

Good afternoon everybody, I hereby call to order the

Ms. Dorsch?

Here.

Mr. Delandro?

Very good, and I think the first

The thing on my list to do is ask for a motion to approve our November 30th committee meeting minutes.

Second.

Ms. Dorsch?

Aye.

Ms. Villabas?

Aye.

I think I'm going to abstain.

Okay, and now the next order of business is a, excuse me, it's a time of year.

Thank you very much.

So I'm going to take us through a couple of slides and then

We'll hand it over to Shannon to go through the detail.

We did change the process a little bit this year.

Each year we're required to submit our capital budget to the Commonwealth Transportation Board.

They provide a lot of funding to a lot of our efforts and so it makes sense that they would have some input in our budget.

In the past we had done our entire budget operating and capital and this year we decided

Look, let's just focus on the capital piece because the operating side of the budget is fluid.

It's got a lot of estimates.

It's got a lot of information coming from outside parties that we need to get.

And what we saw the first few years was between this January timeframe and we got to May and June, we were having to change that operating budget.

And so to avoid that, it wasn't required for CTB and we've got

Last year we did this also.

We got up there.

We only focused on the capital piece and they were accepting of that.

So that's a big change this year.

The other item I wanted to point out that's a little bit different to the process is, you know, we take a financial planning window as far as looking at all the sources of funding and the uses of funding.

We did add one year to that this year.

So because of that,

are looking at the estimated operational cost.

So they must be included when we're looking at, later on we'll be looking at a working management reserve.

And the next slide shows it better.

I got ahead of myself a little bit.

So, but yeah, and what I want to say here, I think

Hopefully everyone leaves today feeling like it's really good news compared to last year.

Last year when we presented this slide, it was not an equal sign.

It was a not equal sign.

And it was an unfunded 705 million, as you see in the red box there.

And we appreciate y'all's faith in us.

We had a lot of different options to find that funding.

We felt confident we could, and we have been able to go out

Real quick, if I can just add a lot of effort from a lot of stakeholders, not just ourselves.

We had great support from the CSX and VREs of the world, but also, of course, the Federal Railroad Administration, our congressional delegation.

We have a great congressional delegation that really is fully supportive of everything we're trying to do.

of course I should have started with them, very supportive of what we want to do.

So it's really been a total team effort.

Yeah, and I will say I kind of said it, I really appreciate the faith y'all had and us, you know, last year was a big number.

had a lot of different options and the faith y'all showed in us to get it done.

We definitely appreciate that.

Adding to that, so fill that $705 million gap is obviously a big priority.

And then second thing I'll point out here is we did add that one year.

And once again, I'm gonna reiterate, it's to both the sources of funding and the uses of funding because our operational costs, they are somewhat significant.

So I don't want people to forget that we got to fund that

year of 2031 uses.

So with that we are adding that year which is you know changing schedules just slightly and I'm gonna at this point let Mike talk a little about that and then once he's done then Shannon will take us through all the detail of these numbers and the movement within the budget.

Adding that year uses operational so I'm assuming that

After the completion of the project, we are still going to be responsible for at least a year to make sure that everything functions properly.

So we are adding the year to match to the capital projects window.

So we match the operating to that window, but we have historically gone and added five more years just to operations.

And I will say we are currently under an effort right now to

Refine those estimates we use.

You know, that's five, like 10 years out.

So yeah, and we're trying to, instead of up here, trying to get it here.

Maybe it ain't going to be perfect because it's still estimating, but yeah, we definitely have in the plan to be able to run the trains that when we're going from six to 12 or 13, we want to make sure we can run that many at the end of the day.

And a big part of that, honestly, I give DJ credit for this,

is our cost recovery.

Our cost recovery is very strong for the industry.

We're at, I think, 68% this last reporting period.

And I think we'll push in trying to get to 75 or above.

And let me just add to that.

So by operational costs, we mean the operational costs not only of paying Amtrak to run the trains, that the remaining 30% but also the operations maintenance of the track that we own and the bridges and that maintenance that will continue to need to be done even after the rule is cut.

The CRE, are they in it?

We pay the share of the VRE access fees.

When we add that year, all of that needs to be taken into account, and protecting Steve, it's hard enough to predict what those costs are going to be 12 months from now.

It's one of those logic.

We're definitely cognizant that we want to be able to run the trains.

So with regard to schedules, we've talked a lot in the past year about how when we get to 30% design, we have a better estimate of cost.

Very similar, we have better estimate of the scope and the schedule.

So we'll be coming back to you in 11 days from now with more detail about this schedule for each project.

There's always some, it's interesting going, sitting in the engineering meetings and listening to the construction staging and the meshing of projects.

A lot of our projects touch each other and unified schedules.

And these things do change.

When you get to 30% of design, you have

General idea, much better idea than you were at zero or 10% design of what your construction dates are to Mr. Watkins' point.

You also have dates of when you're substantially complete and then there's still work that might go on for another year while the train might be in service over that track.

You're still detransitioning from the site, making sure everything's working smoothly.

The numbers that we're presenting today include all of that information.

getting ahead of ourselves.

But when we get to slide nine, we've got that column that says here is the status of the estimate.

When we first started, they were all ones like conceptual or barely being designed.

Now they're moving forward to 30% design, 60% design.

And the costs and schedule obviously go hand in hand.

The length of the project could also determine the cost.

But we do cost all of our projects out to a year of expenditure.

I'll continue on.

We're going to dive into the sources side here.

So as Steve mentioned, and you're well aware, we had a really great year for the sources side.

So one of the things we are shifting in the way we present this to you all and the board is that we now have the management reserve policy.

So we're going to show this increase in sources going into like a working management reserve, and then we're going to have a recommendation on how that gets used.

So you'll see that here as we explain what changed in the sources.

So

As you all recall, in Q1, we brought some changes to the management reserve.

So on the left-hand side, you're going to see that $146 million that you are familiar with.

But we've also gone through our financial planning exercise.

So over on the right-hand side, we'll talk through some of the changes that we are showing in our financial planning window.

So obviously, the Fed State Partnership Grant, huge increase, $729 million coming into our plan.

We also had further refinement of

Cost within our financial planning window, so from FY25 to FY30 changes to that base.

So our operations revenues, I'm sure you all have noticed that in all of our EDRs, we consistently beat the budget on our revenue.

So we've adjusted those assumptions and reflected that in our plan.

So we're increasing that in our overall revenue sources from our operations, that's $74 million.

CRF revenues.

This isn't an estimate right now.

I know there's a lot going on with the General Assembly, but we are reflecting a slight uptick, but this will continue to monitor as that goes through.

So right now that is reflected in the plan.

And then our investment income.

There's going to be a lot more in the docket about our investments, but we are confident that the significant earnings that we've been showing are going to continue and we're doing a lot of modeling.

Oh no, I know.

Okay, and then as we continue to reiterate, we're adding another year of revenue to the plan.

So we're adding that $335 million.

What this is is our operations revenue and then another year of our CRF revenue.

So that's what's coming into the plan as well.

As you can see, we've got the sources kind of growing as we had from our prior plans, mirroring the last slide through the adjustment in Q1, all the way up to that $7.72 billion of sources.

And then that management reserve is also growing, right?

So all of these revenues are being put into the management reserve.

So we kind of have that displayed a little bit differently on this slide showing graphically how that's growing.

to that $1.4 billion.

And then what we're going to walk you all through is the recommendation of taking $1.1 billion of this to fund certain aspects of the plan.

So removing our unfunded balance, going ahead and funding those phase two projects, we have to add that additional year.

We have some changes in cost increases and then some new items we would like to add to the budget.

So that's what we're gonna dive into really next.

So that's gonna drop the management reserve balance to 330.

We will note that that is above the goal.

We have some other recommendations that will likely be coming at the board and that'll become more clear as we go through this presentation here.

So any questions on sources before we flip over to the uses side of the financial planning efforts?

Hearing none, I'll go ahead and proceed.

In true form, there's a lot of different types of changes that come into the financial plan.

We have done our best job to categorize them into like logical buckets to easily talk through.

So we are going to talk through the $1.1 billion increase in uses in kind of four categories.

So first we are funding our unfunded position.

Next, we're going to be bringing in that next year of financial planning, so FY31, into our plan to consider.

We have our base budget changes and then we have new items.

This format is going to be carried over to the actual budget components on the next slides where we'll really go into the details of what is making up these numbers, but this in total is a summary.

I do want to note the last row here is operations.

It's our preliminary operations adjustments.

As Steve mentioned,

We're not taking this to the CTB.

This is just for a financial planning exercise, but we will talk through what is changing there because it does have a significant impact to the plan.

Preliminary for now, though, a lot more to come when we come back to you in June on that budget component.

Okay, so starting with the I-95 corridor, this is going to be our most complicated corridor as it usually is for budget adjustments.

So this format is going to continue for the next five slides.

So as DJ Menton, our estimate level is predicted for each of the projects, you can see

that we are moving up into those high design numbers.

And so that's positive news as it's informing our cost estimates and our schedules.

We have our FY 25 budget in comparison to what we had in our FY 24 budget and the change.

And we're going to walk through what's driving each of those changes here.

So starting with the unfunded balance, you guys will recall the I-95 corridor had a $699 million unfunded balance.

I want to pause there because we got a grant for the phase two projects for $729 million.

And we've gotten a couple of questions of like, hang on.

Your unfunded balance was $699.

How do you get to the $729?

And we're going to explain that really quick.

So when we put in our application, it was for all phase two, which includes long font, a VRE-led project.

VRE had a $30 million unfunded balance in their budget, but because you need to complete all the phase two for the BCA and getting that new service, we included that in our application.

It was awarded.

You'll see over in the new budget items, we would like to take that $30 million and give it to VRE so that they can bring that project to completion.

It's all there.

Ties out to the 729.

About a $115 million project for them.

We identified the budget gap.

The FRA is very clear.

Does that need to be done to get the Phase 2 service?

It does.

You need to include that.

We talked to Rich Dalton and Viri.

They agreed that that was their best guess estimate at the time.

And I'm just going to add quick that we're including it because that money has to flow through our financial system.

Longfawn is carried here as a contribution.

It is an asset.

At the end of it, we will own the four track at Longfawn.

So that's why we continue to reflect it here.

But just wanted to tie that out for everybody.

So moving on to the base budget changes, you all will notice that all of these changes are really reflected for the siding.

So as the sidings continue to get underway with engineering with CSX, we have a lot more information on what it's going to take to deliver those projects.

So we've reflected that here.

These are required projects.

They do unlock service.

So we are reflecting those changes and making sure that the money ends up where they need to be to get that service for VPRA and the Commonwealth of Virginia.

And the last column here, the new budget item.

So we already talked about long font contribution, adding that $30 million.

The other project we are recommending that the VPRA board fund is the construction of King and Commonwealth.

Now that that has reached final design, we have good numbers on what it's going to take to deliver that.

The financial planning exercise has shown us that we are able to fund this project and we are recommending that we put the money for that construction.

As I mentioned, this is our most complicated adjustment slide.

Can I answer any questions on the I-95 corridor before we move on?

Very good.

I hear the categories are working.

We're trying to make it logical.

Okay.

The Western Rail corridor, no changes in this corridor.

There is going to be a lengthy presentation brought to the full board on January 23rd.

So a lot more to come on what's throughout, not reflecting any changes at this time.

Are we expecting some big surprises in the Western Rail?

We're expecting, we have 30% design now.

We're finalizing that presentation to bring to the board in a couple of weeks.

And given that we know a lot more now, we understand better the complexities of delivering that service.

So the answer is yes.

Part of the 30% design is getting options to see different ways that we can get there.

And so it's a range where it will be that this is what we're going through now.

And we were talking to the Secretary of Transportation next week to go through what the findings were.

Right.

I don't know that that's true.

We haven't talked to the secretary yet, so I think we're getting ahead of ourselves.

But I do know that we have been given clear guidance that we shouldn't be turning to the state for more funding.

DJ, we're going to do a detailed briefing at the board meeting before we would

proceed to the capital budget at the board.

So we'll have that discussion before we would ask for any final decision on budget.

So moving on to the other capital projects, this is the last capital projects section

Very simple change here.

So last year we had carried a grant match for 60% design on the S line.

At that time, you know, our priorities really were pushing us towards funding the required projects.

This does not get funded.

And the grant actually went out without our match.

So we were going to remove it from the budget, which is going to reduce that unfunded balance.

We just wanted to make sure that it reconciled out and you guys could see how that 705 was coming off.

So it was unfunded.

We

So happy to talk about it.

So we had just released our RFP 30% design, and I think the feedback North Carolina others received was, let's get 30% design underway before getting a 60% design.

So that application was on the, it was in addition to the 30% design, the 60% design plan was.

So we had thought about maybe helping them with the match for that.

but what we're doing is we released a design, 30% design for all the way from right here at Main Street, all the way down to North Carolina border, six segments.

We released that December 15th.

So that will be selecting, the bids are due back in early February and we'll be having a contractor, it could be up to six, it could be two, it could be three.

They can get a mix and match of the different segments in the spring.

But this is very similar and I'm glad that these two are linked.

It's similar to what we just talked about with some of the other projects.

At zero percent design, you have no idea.

And so when people come to us and say, when will the S line be done and how much will it cost?

We've learned our lesson and we're quick to say we don't know.

Yes.

So that's where it is.

I mean, one other part of what you're anticipating as the S line is very costly.

Coming across that river and weaving it into Main Street.

When you're coming across Lake Gaston.

And Lake Gaston.

Coming across to Appomattox.

But it becomes... You're talking North of Petersburg.

Yeah.

Yeah.

Go right straight up to DC.

There's really about three segments.

There's a North Carolina segment that's a current corridor.

The corridor that they received, they received about a $1.1 billion grant to upgrade that section.

The next segment is the abandoned corridor from about nine miles north of North Carolina to the south end of Petersburg, Dinwiddie, Collier Yard area.

Before you get to the bridge.

Before you get to the bridge, correct.

And then the last segment is where there's current service.

from where the Norfolk trains come in and north.

So there's that kind of a south Richmond area and the Chesterfield slash Petersburg area.

So that's kind of three segments, but you really can't do much to get the S line up and running until you get to really Ettrick Station where that connection for the Norfolk trains and all those trains to the current service.

It will be costly.

We all know our capital budget, how much it costs to build out track.

We own most of the right of way.

There's some small parcels here and there.

But you're right.

We did receive most of the right of way.

And Mike, is it true, if I'm wrong, just jump in, to get a dedicated corridor where we can make more scheduling and more service decisions?

We've run through Richmond, across the James, downtown Richmond.

We have rights from our agreement with CSX, where we purchased from DC to Petersburg, actually includes the segment from Main Street along the Belwood Sub, as they call it.

If you went out the other window, you'd be able to see it, down to Petersburg, and that's where we have rights.

If we ask, we want rights on the pretty, what I call the Pole-White Bridge, that you can see from the Pole-White Expressway, we would have to renegotiate that with CSX, but they intend for us to come up

You mean for an hour and 15 minutes, but yes, you're correct.

And Mr. Watkins, we do have the $39 million in here for the 30% design that we are.

We got to get that first.

$39 million, we actually got a grant for that.

Last capital budget section is going to be our capital and operating grant.

So

When you look at the actual budget document in the summary, there's a lot of grants.

We tried to summarize that up just so that you guys can kind of glean the important facts here.

So a lot of what we're doing is passing through grants for VRE.

So there was a slight change in that $2 million.

I will note that while we are increasing the uses, there's also sources.

So that is a net zero impact financial plan for that first VRE passed through grant line item there.

The most significant changes that we're seeing here are the VRE track lease payments.

As you all recall, we pay 84% of VRE's track leases.

Lease payments to Amtrak, Norfolk Southern, and then CSX as part of our operations costs.

But they are seeing incremental costs related to just the inflation factors on their base agreements.

Additionally, they are adding new service.

So we are reflecting that not only to our base budget, so in our previous financial planning window, but we also are making that commitment one more year in our financial plan.

So those are the main changes that we're seeing in capital and operating grants.

In the last section, like we mentioned, we have the preliminary operations.

We want to walk you through this just because there's some big changes here and explain what's driving that.

So again, we're adding another year of our operations to our financial plan.

The big changes that we're reflecting, so a big decrease in our Amtrak train operations.

What's driving this is that now that we have history of starting new trains, we have a better idea of what it costs to start new trains.

Our original assumptions is that it would double.

We now have a lot of

inputs and assumptions to add into the forecast.

And we realized it doesn't actually double when you add new trains.

So we were able to adjust that for the future starts for when we complete phase one and phase two.

And that did reduce our Amtrak operations.

The other big thing that VPRA is about to undertake is implementing a cost allocation plan.

What this is going to do is take the administrative costs and it's going to put what we work on so that we have the building, our IT, and we're going to assess how much of that is really with what VPRA is doing for our capital projects and so that we can get a real understanding of what does it take to deliver these projects.

So that's what that allocation plan will do, getting the costs where they need to be.

So getting a better understanding of our capital projects, but also very importantly,

helping us understand what it truly takes to run our operations.

Currently, this all sits in our operations budget.

So now that we're making the shift, getting those costs where they should be within our actual budget, that's the reduction here.

So as a result of that high level, we expect that this is going to reduce the administrative costs about $94 million.

And I was just going to say that so

That 90 formation didn't go away.

It had already been previously budgeted within the capital project zone.

Maybe the net reality of it was we had maybe budgeted it twice, so to speak.

So I want to note we are not asking that the Finance Committee take a formal action on the recommended budget.

We do want to make sure that you are all comfortable with what we are going to be asking the Board to recommend to the CTB, making sure the Finance Committee has other questions or any comments, suggestions.

in Incorporated before we take this to the board.

So I'll do just a quick summary of what we've shown you all.

So obviously we've got a great year in sources.

We have an increase in sources of $1.3 billion, and we're recommending that $1.1 billion get put on our program or project.

We're going to fund our unfunded balance.

We are going to have some base changes that we're going to fund.

We're bringing in a couple of new projects.

So that additional contribution on L'Enfant and King and Commonwealth and adding one more year to our financial plan.

So funding those changes as well.

Have we been doing that?

Yes, ma'am.

Yeah, we've been doing it.

We had a one-year break.

It was something that we negotiated with them through all of our initial agreements with the C-ROC and a funding strategy, but we've been paying it.

They had additional COVID federal credits, and they kind of helped fund the overall plan.

They agreed to give a one-year hiatus

General Assembly redid the whole transportation funding, created this authority.

84% of what they need to pay for Norfolk Southern CSX and Amtrak.

And I should mention that, so we didn't double pay with CSX to maintain tracks.

CSX maintains tracks that we'll own through that V repayment.

Because we pay 84, that goes for maintenance and dispatching, but they're too big.

So we don't have to pay CSX again to maintain tracks we'll own.

That isn't negotiated.

Long ago, that percentage would, some years it was over 100%.

And then we, I don't know, we worked together and came up with 84%.

It's probably been eight or 10 years ago that the state kind of came up with that plan.

So it is something that each year the board

has the ability to approve.

We're going to continue to recommend it because our mission is to support commuter rail.

And of course VRE is contributing about $200 million to our Transforming Rail in Virginia capital plan as well.

I appreciate, Shannon, you closing that way.

I should have opened that way with the point of today was to brief y'all to get you comfortable with our recommendations.

So we're reviewing the budget, not approving it, giving feedback.

On the 23rd.

Just a reminder of the process.

So we'll recommend the budget on the 23rd.

Hopefully you all will approve that recommendation.

And then we bring it to the Commonwealth Transportation Board, the capital budget, and then we preview it in February.

They hopefully take action and approve in March.

And then we come back to you all in May.

with the same budget, whatever tweaks may happen over that time.

And then you give final approval for the budget that starts on July.

It might be June.

Yeah, June 4th.

And I guess I don't want to pressure anyone.

We don't have to have your comments or feedback right today, but there is a very small window between

And we have to finalize what we're going to recommend to the full board.

So if you're driving home and have thoughts or questions, feel free to send them to us.

But I think, is it next Wednesday or?

Is it Tuesday?

Thursday.

Oh, next.

So by Thursday, we have to be done.

Yes, welcome the opportunity to spend some time with our new investment advisors from meter.

Well, thank you very much.

We greatly appreciate it.

I'm Eileen Stanek.

I think we all met at the November

Finance Committee meeting.

I have with me today, too, Gabe Phillips.

Gabe is my backup in working with the rail authorities, so it's very important that he also hear a lot of the information that, of course, Shannon and Steve shared as it relates to the capital budget and the like because from our standpoint, we

As we work with Steve and his team, we want to be part of that team as well.

So unfortunately, Jason Heddings was not able to make it today.

He was out in our West Coast office and had some flight conflicts.

So he's currently on a plane.

But that being said, just wanting to dive into the material here because I know we have a very short window of time.

What we wanted to discuss here is just give a brief update on where the state of current interest rates are today and a little bit of a historical perspective and then talk about the expectations for where interest rates are headed.

Then tie that into what would we be wanting to try to accomplish for the authority as it relates to as we construct the investment portfolio.

And then lastly, how that would actually, what that would actually look like from an example standpoint, like almost a recommendation standpoint, compared to where we are here today.

So if we could just flip to the next page.

Thank you.

So this is a graph showing US Treasury rates at specific points in time for specific maturities.

So on

The scale is, of course, showing the yield.

The bottom is showing the maturities.

And we start out with just kind of a quick look back at 2021, which really was just two years ago.

That's the orange line on the bottom.

Interest rates were much lower.

This was prior to the Federal Reserve acknowledging that inflation was more than just transitory and that they needed to move forward with raising short-term interest rates.

So throughout

2022, they did embark on raising interest rates and that is the green line.

And we can certainly see that particularly if we are looking at say that five year mark, which from our standpoint is generally the maximum maturity that most public entities can invest out to.

That five year rate went from a little over 1%, actually 1.26% to the end of 2022.

It landed at 4.01%.

So clearly a lot of movement on longer term rates as well as short term interest rates.

And the Fed continued their path of increasing short term interest rates through mid-2023.

and had been signaling to the marketplace that additional rate hikes would occur in the second half of 2023, which contributed to interest rates reaching kind of a peak at the end of October, such that we had the five-year treasury hit 5%, so moving a full 1%, and that short-term rates being anchored at that five and a quarter to five and a half percent

Well market conditions, economic conditions warranted that no additional rate hikes did occur in that final quarter of 2023 and actually the Fed pivoted at that point and started to communicate as we'll show a little further in that lower interest rates going forward would be warranted and of course the market adjusted and we now have interest rates as exemplified by the turquoise line showing that

term interest rates were back to really where we had started out 2022.

And so today, even when we look at where rates are, just to kind of put some numbers on it, you know, the two year Treasury is around four and a quarter, 430.

And the five year Treasury is slightly below 4%.

So these are still very attractive levels.

Before you go to the next slide and that five percent five-year five percent treasury what was that like I mean and maybe I'm wrong but was that like

Yes.

Good point.

It may have been days, literally.

Yeah, it might have been days.

Exactly.

Yes.

That's a very good point, Steve.

Yes.

Thank you.

Yeah, clearly, from our standpoint, we look at taking, I would say, a longer view on the whole process.

And so as we look at this and assess what's happening in the marketplace, it's not a question of, will rates be lower?

It's a question of when, and we certainly, yeah, it's fruitless to try to time it perfectly.

So if we could flip to the next slide, please,

So this leads into really what the market expectations are.

So as we know, the Federal Reserve meets many times throughout the year, eight times, so four of those times they do issue guidance to the marketplace as represented by each member of the committee.

The Federal Open Market Committee issues their expectations of what they believe will be the appropriate level of that overnight rate as of the end of each year.

and so when the Fed met in December, mid-December, that coincided with them issuing their most recent updated guidance.

And so we have plotted that on the graph here on the turquoise line, which is showing the Fed's guidance as it relates to where that overnight rate would be appropriate.

And so starting, of course, at our point of where we ended 2023,

on an average basis of five and three-eighths, the Fed's guidance is that they think it would be reasonable that they would need to lower rates by what we would consider three rate cuts, a totality of 0.75% during 2024.

And then with additional rate cuts in 2025, maybe upwards of four rate cuts,

The Fed has set a long-term objective of getting the overnight rate to an appropriate level of 2.5%.

And that, of course, would be contingent on the inflation levels returning to their 2% target, as well as the economic conditions being in a period where the economy is not running

too hot or we would not be in a recession.

So clearly at this stage, the Fed is setting those expectations that the higher interest rates that they inflicted during 2022 and 2023 have been successful in lowering that pace of inflation.

And while the economy has continued to move along in a positive direction,

and so therefore the time is right in 2024 to start to lower rates.

Now the flip side of this, or I should say the other side of this, is that the Fed issues this guidance four times a year, making it very clear.

But the market sets their own expectations and has their own opinion.

And that, of course, can change each day.

So kind of back to that timing issue.

And the way that we can measure what the market's expectations are for the overnight rate is to look at the Fed funds futures market.

which is where market participants are actually placing money on their expectations of what should be the appropriate level of short-term interest rates.

And so this is the darker blue line.

And so as we can see, the market's expectations are that the Fed will need to accelerate the pace of cutting rates more than what they are communicating in their guidance.

So we have an alignment with the trend of interest rates.

We have a difference in the opinion of the pace of interest rates, as well as ultimately where we may land at the end of 2025.

So clearly, as I said, the point is that we're at this point where, yes, the Fed is positioning to start lowering rates.

So we have that to look forward to.

The, of course, this will all be dependent on the data, i.e.

inflation and the pace of the economy.

But then additionally, that will feed into the timing of when these rate cuts do start to occur.

Next slide.

So how do we take this information and apply it to the authority's investments?

And how do we develop

that approach as we have these conversations with Steve and team and we proceed with investing the authorities' monies.

So this was a slide that was in the November Finance Committee meeting that Jason Zabo, I know, walked through.

But for today, I'd just like to touch on two of the points that are there which I think are really pertinent to today's environment.

The first point would be under the portfolio construction.

When we look in terms of that first item, really what are we, you know, what do we believe is an appropriate objective?

And it's from our perspective, particularly in this market environment, it's creating this consistent and income that will be higher over time versus the short term rates.

because as we see today, the expectations are that short-term interest rates will fall.

So the value that can be gained by locking in those longer-term interest rates, albeit they may be lower than where the short-term rates are today, but getting those locked in today before short-term rates and longer-term rates drop any further, because clearly from a budgeting standpoint, having some

certainty to this interest income piece would be of value.

The other point that I wanted to just focus on briefly is under the security selection.

And that is that last paragraph, which is evaluating income and yield enhancing swaps versus active management.

So we know in the past, during this past time, the authority has

adhered to a hold to maturity approach as it relates to all of the investments.

And one of the things that we bring to the table is being able to take a more active approach.

And so what we mean by an active approach, particularly as it relates to security selection, is looking at the holdings at any given point

and determining does it make sense to sell a security prior to maturity, either realize, capture a gain that may be unrealized within the security or capture an unrealized loss that may be inherent in the security and reinvesting those funds either in a different type of asset or reinvesting those funds.

in a longer dated with security to again meet that first point, which is locking in that interest income in view of what we are seeing and expecting in the marketplace.

So just wanted to bring that approach, that clarification, I guess, to how we would be looking at managing the funds as well.

And then lastly, on the next slide here, this is an example of really how we would look to, we feel it would be appropriate to invest the funds, you know, cash flow permitting.

Starting out with on the table, you know, we gathered the information from the October 31

Director's Report, what the allocation of funds across the different asset groupings was with the authority, and of course determine what percent was held in the LGIP, the LGIP extended maturity versus the securities portfolio.

And then comparing that to what we would call our example, which would be

If we're able to extend funds, add funds into the securities portion of the portfolio, still maintaining what may be an appropriate level of liquidity within the LGIP so that provides the day-to-day funding that the authority needs.

You know, and how that then would look.

So for in our example here, if the authority had 700, we'll say basically 700 million, even if 250 million is retained as liquid funds, that would still represent 36% of the total available funds with 64%.

dedicated to the securities portion.

Now from our standpoint, and this is where we can look at the lower part of this page, the key is how would that perhaps that 64% be invested?

And from our perspective, we like to take a very disciplined approach.

Today we know all of the funds are either in the LJIP or they're maturing within a year.

And we would

be proposing that, again, cash flow permitting that we extend portions of those funds out almost in a strategic ladder approach beyond one year into that one to two year maturities two, three, three to four, and four to five.

And so again, this would help to lock in that income for the authority over time.

So really, just to summarize, as we view where we are here today, yes, rates are headed down.

Our objective is to provide that certainty of budget, budgeted income, be able to protect the authority from what we would call reinvestment rate risk, meaning that as rates falling, you're reinvesting at lower and lower rates.

And how would we accomplish that?

We'll accomplish that by

Working with the team to determine what's an appropriate level to maintain in the liquid funds, the LGIP.

So before you open the floor for questions, I just want to add two things.

So we're embarking on a little different approach than we've had the past year.

We mostly were in LGIP.

And as Elaine just explained, short-term interest rates were actually the place to be.

So we're very fortunate.

The outlook is rates are going to go down.

So we're hoping to lock those rates in.

and when short-term rates go below what we've locked in, we will be gaining at that point.

It's a little different approach.

Still, our investment policy is the maintenance of the principal balance.

So even though we may sell a security here or there at a slight loss, the purpose of that would be to invest it and gain more than that slight loss.

Second principle is liquidity, which is, and we're going to talk a little bit about this when we get to investment policy,

is we have to make sure we have the funds available to pay our bills.

And the third is the return.

And with all of this change, we still have those three core principles at heart.

The second thing I wanted to say was with a lot of talk about the rates here and the rates declining, and Shannon just showed you slides that had $20 million of change to management reserve for interest, investment earnings.

There's that that we're putting in our plan.

So rates going down, we'll get less return.

There'll be less earnings.

And as we spend the balance, we don't think there'll be less return.

But it's a double-edged sword.

Rates come down and we go to issue debt that's in our plan.

We should be able to leverage more debt or certainly pay less interest.

So it is a double.

These interest rates are actually a double-edged sword with VPRA.

So with that, I'll open the floor for questions for

Steve, I have one.

Okay.

Well, maybe it's more for you for a start.

Our former investment advisors, I think they, you know, they advise us on a hundred million dollars.

That's essentially what it is and I think

with this plan, this isn't just an example, and from working with us on cash flows of projects, so that liquidity principle, I think this example, it's not exactly what will happen.

They're saying leave 250 million in that LGIP, and it's really for those short-term needs over the next year to year and a half of paying the bills of the projects that Mike's running.

So yes, we're looking at it that they would manage the full 702,

When I say that, what's left in LGIP is not technically under their management.

Yeah, and it's there, it's suggesting to us.

The group of, the three of us here working with, we're going to make those decisions of

And one more question.

Real quick, since I'm remote, it might be easier just to get it out.

When we go through the investment policy amendments, can you let us know what's recommended by meter and why and how you came to agree to it?

Some of them are easy, like the portfolio maturity, right?

Anybody else have any questions?

All right.

Well, thank you all for joining us.

I'm moving along.

Now, how do you feed it up that we're going to do have some, I call them life adjustments to our best policy that

Working with meter and then also some of it.

So someone was there reading our policy and helping us clean up.

Some of it's just some slide about some of it's a little bit more strategy.

Sorry, just for clarity though, we're going to, someone's going to go through them and then we're going to ask for your approval of these changes.

Yeah, your recommendation to take it to the full board, but with y'all's recommendation attached to it.

Correct.

Can I ask a question?

Sure.

So previously with our former investment folks,

So this is...

I'm smiling because... We haven't done it yet.

It was a very non-active engagement and that was one of the reasons we thought it was time to put it out.

So we wanted more engagement with us and a more active approach.

It's outstanding.

Good afternoon.

My name is Selma Nahanovic.

I am the Planning and Analysis Senior Manager.

Selma, before you jump in, sorry.

That's okay.

So our first recommended change to our policy is regarding the environmental, social and corporate governance framework, ESG for short.

And this is on page one of the investment policy red line version.

Our current policy requires an above average overall ESG score.

and not a single investment can be below average ESG score.

And this is specific to corporate notes and commercial paper.

And our current ESG framework was specific to our previous investment manager.

However, meter does not have an ESG framework to apply these rating requirements.

So our recommendation is to remove the ESG requirement from our policy.

Even there that is because that they fall on the corporate notes and commercial paper but

Even then, those items, we did not.

Let me put it this way, the prior investment managers, the way they actually did the scoring, it had no bearing because within those categories, almost all to get to AAA, you end up in the financial services industry.

and doing a little bit more due diligence.

We did look at other agencies to figure out if they had an ESG policy in their investment policy and we did not find any.

We've looked at MWA, NVTA, Fairfax, HR Tech, Arlington Port Authority to give some examples.

The only comment I would make, I think it's the appropriate move to be making at this time.

This and ESG and DEI are probably two of the most, I'll just call them controversial requirements that are out there right now.

And I saw yesterday a

member of the House of Delegates just literally undermined an agency head on ESG.

And I'm not on ESG, excuse me, on DEI.

And I just caution you that you're liable to run up on some of this when we start making these changes.

The change is the appropriate change.

All you have to do is read about

the corporate entities that are coming out of and away from ESG.

And it's easy to understand why we should.

And the fact that you don't have many other agencies that incorporate it as well.

But be alert.

Yeah, I mean, I jokingly say that

You know, most of our investments are a big chunk of US government securities.

And I jokingly say they score well enough, they can't.

And I'm joking, that's all I'm saying.

But it has a very minimal impact.

I think, hopefully, what y'all are taking from us is that there's such a small pool of investments that could ever get to that point.

So where you might be saying, oh, we're thinking about lying a corporate note of Exxon.

Is that an Exxon actually?

I think we had this debate two years ago.

Exxon actually scored very well under the prior investment advisor scoring process.

They would have scored a four or five.

But then if you went over to Chevron, they were going to score like a two or one.

And so unfortunately, never

I think it's for us who drove this because we needed to, the policy as it was was not going to work because they did not have a framework.

If they did have a framework, the old policy is kind of based off a score from one to five and that's how you got this average.

So it was going to have to change.

So I think we drove this one.

Our next item is more of a cleanup in wording under the authorized investment sections for U.S. denominated supranational agency bonds.

We included expert development Canada bonds in that language at the end of that paragraph when we shouldn't have so that wording was overlooked in our policy.

as that investment is limited to the Virginia Treasury per code.

So we are just recommending striking Export Development Canada bonds from our investment policy.

And just to clarify, there have been no investments in Export Development Canada bonds, so there's been no issues of non-compliance with the Investment of Public Funds Act.

The ESG policy has been in error.

Yeah, it was the first revision.

But we don't have a framework on how to apply that.

With Allspring, we did.

So our previous investment manager, we did apply and we reported it.

They provided us kind of reports on where the limited scope of commercial paper was sitting.

So we did with Allspring.

So they were all highly rated when they would send us the report.

And Allspring, if you all recall, we ended up with Allspring because when we did the procurement for our banking services, we ended up with Wells Fargo.

Allspring was a sub and offshoot.

Wells Fargo.

And the last one said, oh, we might have a lot of funds.

Maybe we need to set it on a whole other procurement and then the investment management to that RFP.

And I would what I would say is Allspring does a lot of private wealth investing and meters focus is, I'm not going to say 100 percent, but it's the majority is working with government tight ends where

I think almost most governments are going to have a very similar policy elsewhere.

The range of investments you can get into is right off the bat.

It goes from this and it's down to a small window.

I'm just trying to envision what kind of pushback we could end up having at the

I don't know if we'll have any, but I've heard, not necessarily on ESG, but the DEI piece has come up already.

When this got added, there was a lot of talk of how much does it really impact your investment portfolio?

We went round and round on that.

And we, it was hard to really measure.

So at a point in time, you could go out there and see today what commercial paper would even be available.

And we tried to quantify it.

And it was so difficult that it was the point where it really had so little bearing.

And that's why we're trying to note that and drive that home.

It was in there, reactive to board members and kind of being cognizant of that.

That's the scope of the investments that we can even consider.

It's so narrow.

It's not a philosophical or moral question.

If you were buying stocks and all that kind of thing, I think I'm kind of where Kay would have been.

I was just going to add that in our discussion, we had a prep meeting with the chair and in that discussion, part of

What we were talking about was, you know, this is not state law.

This is the Ford's investment policy.

And five years down the road, you know, ESG clearly, we all know it's become a lot more important in the world.

We just need to make

these points that would be prepared when we bring it forward.

Exactly.

See, I thought we had already flipped the page and gotten past the screen.

Did you want me to advance it?

Am I on the right place?

Our next recommended change came from working with meter and reviewing our investment policy.

And also in order to increase our portfolio diversification, we are recommending to add AAA rated asset backed securities.

We are allowed to invest in asset backed securities for the Code of Virginia and we are recommending a 20% portfolio limit and a 5% issuer limit.

And the second item on this slide is to increase the issuer limit for corporate notes from 3% to 5% in order to align with some of our other investments and some of the other agencies that we looked at as well.

And I know we've all talked a lot about interest rates and maturities and meters presentation.

Our next recommended change is, or I guess let me back up.

Our current policy around maturity says that individual investments can exceed five years and our overall average portfolio should not exceed two years.

And this is where I was trying to tease this a little earlier where, you know, it's our core, one of our core functions of the three of us is to ensure that liquidity

and pay our bills.

And our last recommended change is more of a clarification to clarify the requirements and responsibilities that VPRA has versus our investment manager when it comes to selecting investments and investing buying securities.

So we are recommending that, so VPRA is required to solicit three bids or offers if we were to go out ourselves in the market and try to buy securities.

However, our investment manager, we're not asking them to be under the same requirements as they are already, they have to execute in our best interest.

They have to follow the federal regulation.

I believe it's called the best execution rule where they are bound by federal law to act in our best interest.

So we're just updating the language to distinguish between the two.

And sometimes it's, I mean, sometimes there's, you know, there are a lot of governmental entities that are all trying to buy into the same securities and sometimes there's only one person to purchase from.

So you can really only get one quote.

You can go to a middle person and ask them to get a quote on the same security and they're just going to add a fee.

And so that's,

So I know we talked about a lot.

So just to summarize all of our recommendations to our investment policy.

So we are recommending to remove the issue requirement.

We are recommending to remove the export development Canada bonds from the US denominated supernatural agency bonds section of our authorized investments.

Add asset backed securities to our portfolio.

Increase the issuer limit for corporate notes from 3% to 5%.

Remove the requirement for average maturity not to exceed two years.

Steve, can I ask one question about that last item?

So we did a open procurement

and the team that just spoke to us about the interest rates and the environment, that's the firm we ended up hiring, Meter Investment, and that's what we talk about saying to them that they're going to perform under best execution for their client under those federal regulations.

That's who we're talking about is allowing them.

We do have the authority.

Y'all granted us the authority that we could go out and purchase these securities.

How does this differ from what VRS does?

VRS has a single manager that actually does most of the investment within the house.

Right.

And that individual is paid

Probably a lot more than we're paying.

That's why I'm asking because of all the years I was dealing with it on finance and all that, that was one of the things that became a hot button every now and then.

all the state employees' salaries are listed on websites.

You always see the VRS people, but frankly, being a state employee with my retirement, I didn't mind that they were paid very well.

That has to, you have to balance all of it.

What I would say, I think, to answer your question, Trustee Watkins, is we are very fortunate that these two ladies have gone out and collected a lot of money.

So we have a very big balance today.

We're not in the business to go and invest money and make returns.

We just happen to be fortunate.

Rates happen to take a nice turn.

Long-term, we're trying to build projects and run service.

And it's not quite the same as they are in us.

We had a question on that though.

What are we paying meter versus

What is VRS paying their investment in-house person?

Can we actually say what we just said here?

Yes.

Well, I don't know that person exactly, but I would gamble a lot that it's less because I know what we're going to pay me.

You're not a gambling man.

We're confident, we're paying less than that.

In the example?

Yeah.

Okay.

The only one I had a question on that maybe you said and I didn't pick up on it.

Because I made an error and let it slip through when we should not have had it in there to begin.

It was only the Department of Treasury that could make that investment.

It was not allowed for other entities.

Luckily, we never made any of those investments and meter caught that and told us and we've confirmed it.

I guess at this time, we'd like the finance committee to take action to recommend the investment policy changes we've discussed.

Ms. Dorsch?

Aye.

Ms. Oliva?

Aye.

Aye.

Mr. Watkins?

Aye.

Mr. Watkins?

Aye.

Mr. Watkins?

Aye.

Mr. Watkins?

Aye.

Mr. Watkins?

Aye.

I never timed this out.

OK, meeting is adjourned.