voltaire advisors, june 2016...

VoltaireADV I SO R S

1


1

Recent Developments in the Market for Municipal Bond Fund Pricing & Benchmarking

The acquisition of Barclays index group by Bloomberg and the proposed purchase of Standard & Poor’s Securities Evaluations by ICE (also owners of Interactive Data) raise a number of issues for municipal bond mutual fund managers and administrators. Operational practices of many years standing in the fund pricing and benchmarking process are called into question, and firms are being forced to consider changes and alternatives.

This comes at a time when municipal bond fund operations are subject to increasing regulatory and reporting hurdles and a challenging investment landscape.

This Special Report presents the results of an extensive user survey of muni funds on their response to these developments. During June 2016 we polled mutual funds on their reaction to both acquisitions and their current intentions with regard to pricing and benchmark sources. The conclusions provide some much needed empirical data to inform the discussion surrounding this.

As a resource for overburdened fund Treasurers, accountants and administrators facing these problems we also provide an overview of the various pricing and index sources extant in the muni market to assist with planning and strategy.

A Special Report & Survey by Voltaire Advisors, June 2016

MUNICIPAL MARKET MOILS



2


CONTENTS

Operational practices of many years standing in the fund pricing and benchmarking process are called into question, and firms are being forced to consider changes and alternatives.

Executive Summary 3

Introduction 4

User Survey 7

Pricing Vendors 13

Benchmark & Index Providers 22

Other Relevant Data & Services 28

Outlook & Conclusions 30

Useful Links 31


3


EXECUTIVE SUMMARY• Recent developments in the market for municipal bond pricing and benchmarks

have called into question some long-standing operational procedures in mutual funds.

• Bloomberg is in the process of acquiring Barclays Index business which includes the widely tracked Barclays Municipal Bond Index. The widespread belief is that they will replace Interactive Data (IDCO) – who currently price the index constituents – with their own evaluation service BVAL.

• Additionally, Standard & Poor’s Securities Evaluations (SPSE) is being purchased by Intercontinental Exchange (ICE) who also currently own IDCO. SPSE and IDCO are the two dominant vendors in the municipal bond pricing space, and the prospect of them being in the same ownership, or even merged, is disconcerting.

• Migrating to new vendors for mutual fund pricing is an operational, commercial and even regulatory headache and this comes at a time when mutual funds are already overburdened with new demands, such as liquidity management and derivatives rules.

• During June 2016, Voltaire Advisors conducted an extensive survey of pricing and benchmark users’ reactions to these changes. We had responses from 65% of muni mutual funds, representing 85% of AUM in the segment, making the results strongly representative of the sector as a whole.

• The survey quantified the ubiquity of IDCO and SPSE as primary and secondary sources for muni fund pricing, with minimal use of other vendors. It also revealed that the majority of funds are reviewing their sourcing in light of the acquisition, with most looking at all three main alternatives.

• Results also showed that benchmarking against the Barclays Municipal Bond Index was also strongly prevalent and that most funds in this position were not considering changing their pricing provider to Bloomberg just because of the change of ownership. However, many were looking at BVAL as a result of their wider vendor review.

• To help readers make sense of the options available to them when addressing these challenges, we review the service offering of the main pricing providers in the municipal segment. We look at market pricing sources and, since the bulk of outstanding muni bonds are illiquid or thinly traded, we particularly focus on evaluated pricing services.

• We also review the various index alternatives, evaluating broad benchmarks, market price/yield measures and peer-to-peer comparisons.

• Finally, we identify and analyze some other relevant vendor services which either provide key inputs (data or analytics) into the main pricing and/or benchmarking services to assist with the interrogation and analysis of muni pricing.

• We conclude that these market developments are the start of a sea change in the municipal bond pricing and performance measurement landscape and the market needs to accept and adjust to this. We strongly advise interested parties to keep a watchful eye on this market over the next couple of years.


4


INTRODUCTIONIt has been quite a disconcerting time for those investors active in the US municipal bond market. Following the Edward Jones settlement in the primary markets last summer (which may yet have implications for new issue pricing) and in the midst of the Puerto Rico credit crisis and proposed new regulatory initiatives in disclosure and transparency, two longstanding post-trade market operating customs have also been upended, requiring a fundamental reassessment of muni fund practices.

… two longstanding post-trade market operating customs have … been upended, requiring a fundamental reassessment of muni fund practices.

Changing Vendors

First, in December 2015, Bloomberg acquired the Barclays Risk Analytics & Solutions business (due to complete very soon) which included the widely tracked Barclays Municipal Bond Index family (previously Lehman’s). These indices are a common performance measurement benchmark amongst municipal bond funds and their constituents have been priced for many years by Interactive Data and its antecedents.

Interactive Data itself had been bought by Intercontinental Exchange (ICE) that same month, and in March of this year, ICE announced that it also planned to purchase Standard & Poor’s Securities Evaluations (SPSE). Interactive Data and SPSE are the two dominant providers of evaluated prices for the municipal bond mutual fund market, thus raising the prospect of this critical service being in the hands of a single player.

Index Issues

It was clear that Bloomberg was not going to be happy that a competitor is pricing their new index family when they had their own muni pricing service in BVAL. Sure enough, plans are afoot to replace the Interactive Data constituent pricing with Bloomberg’s own. This is a pretty big deal for index users, since they will need to align their pricing sources elsewhere in the firm if they are to avoid an unwanted tracking error when comparing their own fund performance to the benchmark.

Users of the soon-to-be Bloomberg muni indices have two choices if they want to avoid this: switch their muni fund pricing to BVAL, or change the index they track. Both of these options involve significant operational, commercial and legal challenges at a time when the muni market is in a moil, and mutual funds in general are being subject to increasing regulatory demands from the SEC (for example see the details of our recent NY Workshop on our website).

…these options involve significant operational, commercial and legal challenges at a time when the muni market is in a moil, and mutual funds in general are being subject to increasing regulatory demands from the SEC.


5


The real issue is not that there are no alternatives, rather that the market does not want to be forced to switch to them!

Pricing Problems

With respect to indices, despite the potential switching pain, at least there are viable and battle-tested alternatives available to funds (notably from BAML and S&P Dow Jones). The same cannot necessarily be said for evaluated pricing services.

It is common for a mutual fund to use a primary pricing provider for its fund valuation, comparing this to a secondary source for quality assurance purposes. In a large number of cases, where the primary provider is Interactive Data, the secondary has been SPSE, and vice versa. Assuming that the ICE purchase of SPSE goes through, there is some uncertainty as to whether ICE plans to merge the two services or continue to operate them as independent entities behind Chinese walls.

In the former case, then an alternative source will need to be found to maintain the dual pricing set-up. If the latter, then arguably the existing primary/secondary arrangements could be maintained, although there would certainly be some disquiet about how independent the two sources would truly be.

Much has been made on this deal creating a monopoly in the muni evaluated pricing market, with all the implications for market power and potential price gouging, but this is not really true. In addition to BVAL already mentioned, both Markit and Thomson Reuters also have municipal bond evaluation services. There are also a few smaller, niche operators.

The real issue is not that there are no alternatives, rather that the market does not want to be forced to switch to them! As previously mentioned, the de facto duopoly of Interactive Data and SPSE in the muni mutual fund segment has prevailed for a long time and firms have become accustomed to their service offering, support systems and methodologies. Changing this, as we opined in relation to the index issue, is a major vexation.

Operational Headaches

Funds and their advisers and administrators will need to operationally migrate to a new source, dealing with new feeds, price exceptions (possibly including historical differences), new price challenge and client service arrangements and the like. They will also need to update their valuation policies and procedures, contract with, and perform due diligence on, a new vendor, and might even have to change their fund prospectus to accommodate a new service provider.

In addition to these operational headaches, another reason why funds are reluctant to switch to the alternative sources is that these are relatively unproven in the mutual fund segment when compared to the two incumbent hegemons. Whilst the vendors providing them are well established and sound, their municipal evaluations services are all relatively new, and in the traditional – some would say parochial – muni market, this is a cause for concern.

There is also a suggestion that the dependencies of some of these services on the same sources for reference data and pricing technology mean that they are perhaps not as completely independent from each other as funds would prefer.

Little wonder that mutual fund users are less than thrilled at the extra work these developments represent, even if Bloomberg and ICE are putting a spin on their acquisitions as being positive for the market in the future.


6


Special Report & User Survey

This Special Report presents the results of an extensive user survey of muni funds on their response to these developments. During June 2016 we polled mutual funds on their reaction to both acquisitions and their current intentions with regard to pricing and benchmark sources. The conclusions provide some much needed empirical data to inform the discussion surrounding this.

As a resource for overburdened fund Treasurers, accountants and administrators facing these problems we also provide an overview of the various pricing and index sources extant in the muni market to assist with planning and strategy.

Little wonder that mutual fund users are less than thrilled at the extra work these developments represent …


7


USER SURVEY

According to Morningstar, there are currently around 2240 municipal bond mutual funds in the United States, managed by 111 investment advisers. During June 2016, Voltaire Advisors conducted a short survey of these managers on their reaction to the proposed acquisition of SPSE by ICE and the purchase of the Barclays Index business by Bloomberg.

The ten questions were designed to put some empirical substance behind the multitude of opinions offered as to the consequences of these developments, and were deliberately short and to the point to achieve maximum effect.

Survey Questions

1. Who do you use as a primary pricing source for your municipal bond funds?

2. Who do you use as a secondary pricing source for your municipal bond funds?

3. Do you subscribe to any other pricing sources for municipal bonds?

4. If so, who?

5. If using Interactive Data or SPSE as a primary or secondary pricing source, are you considering a change as a result of the possible takeover of SPSE by ICE (owner of Interactive Data)?

6. If yes, which vendor options are you considering?

7. Does your fund benchmark against the Barclays (soon to be Bloomberg) Municipal Bond Indices?

8. If no, against which index is the fund benchmarked?

9. If yes, are you considering changing your fund pricing provider to BVAL to mitigate tracking error?

10. If no, what alternative is being considered?

The response to this survey was very pleasing:

• 33 of 111 advisers polled responded (30%). This included 9 of the top ten mutual fund managers and 15 of the top 20.

• These respondents managed 1451 of the 2240 existing funds (65%).

• In terms of assets under management (AUM), the respondents manage close to 80% of all mutual fund investments in municipal bonds.

This response suggests that the topic is a warm one for muni managers at the moment, and can truly be seen as representative. The results of the survey are reported below.

Our survey respondents represent 65% of all muni bond funds, close to 80% of AUM and include 9 of the top ten mutual fund managers.


8


Primary & Secondary Sources

Of the 33 adviser responses, 17 reported using Interactive Data (IDCO) as their primary pricing source, 15 Standard & Poor’s Securities Evaluations (SPSE) and 1 used Bloomberg. However, when looking at the number of funds this represented the picture was different with SPSE used for 857 funds versus IDCO 530 and Bloomberg 64.

Asked about their secondary source, 15 reported using IDCO, 12 SPSE, 2 Bloomberg and 4 used no second source. On a fund basis, this translated into 849 IDCO, 508 SPSE, 8 Bloomberg and 86 none.

530

857

64

PrimaryPricingSources(#Funds)

IDC SPSE Bloomberg

849508

886

SecondaryPricingSources(#Funds)

IDC SPSE Bloomberg None

In all, 27 of the 33 responding firms representing 1365 funds (94% of those polled) had SPSE as a primary provider and IDCO as secondary, or vice versa. This vividly indicates the extent of the issue associated with the potential merging of these two vendors.

94% of those polled had SPSE as a primary provider and IDCO as secondary, or vice versa.


9


12

131

44

19

0

20

40

60

80

100

120

140

ThomsonReuters Bloomberg Markit All

AddiNonalPricingSources(#Funds)

Only 5 respondents reported having any other muni pricing sources in addition to their primary and secondary – 2 mentioned Thomson Reuters, 1 Bloomberg, 1 Markit and 1 subscribed to all three of these services. In fund terms, this was 12 for TR, 131 for Bloomberg, 44 for Markit and 19 for all three.

Intentions to Change

Our survey then asked if the fund firm was considering changing their pricing provider as a result of the proposed acquisition of SPSE by ICE (owner of IDCO). In their response, 11 (33%) stated that they were not contemplating this, but these only represented 324 funds (22%).

1127

324

LookingtoChange?(#Funds)

Yes No

What was interesting here was that it was mostly the smaller funds who were not examining this option, and of these 11 firms, 8 were either already subscribing to alternative sources or did not use a dual pricing approach.

78% of funds polled reported that they were contemplating changing a pricing provider as a result of the purchase of SPSE by ICE.


10


786

16296 78

50

100

200

300

400

500

600

700

800

900

Lookingatallthree

Bloomberg ThomsonReuters

Markit Notsure

ChangeToWho?(#Funds)

For those 22 funds who were reviewing their options, 12 of the respondents were looking at all three main alternatives, 4 at Bloomberg, 3 Markit, 2 Thomson Reuters and 1 was not sure. In terms of funds, this was 786 considering all options, 162 Bloomberg, 96 TR, 78 Markit and 5 not sure.


11


The vast bulk of funds benchmarked against Barclays were not considering switching to Bloomberg BVAL solely because this might become the pricing source for index constituents.

Index Benchmarking

In another result illustrating the concentrated nature of muni funds pricing and benchmarking operations, 26 of the 33 respondents reported that their funds were benchmarked against the Barclays Municipal Bond Index. Of those who did not, 4 firms used SPDJI, 2 BAML and 1 Lipper.

995

387

64

3

Benchmark(#Funds)

Barclays SPDJI BAML Lipper

One of the more surprising results (to us anyway!) was that, of the 26 firms benchmarked against the Barclays index, 19 (897 funds) stated that they would not consider moving to Bloomberg muni pricing if this became the pricing source for the index constituents. The remaining 7 firms (98 funds) would pursue this option.

Having said that, 11 (715 funds) of the 19 advisers who reported that they would not move to Bloomberg BVAL just because of index constituent pricing changes, had also previously stated that they were evaluating the BVAL option as part of their primary/secondary considerations – either on its own or as part of a wider review of the alternatives. The remaining 8 firms (182 funds) in this group were either not assessing Bloomberg, or were not looking to change vendor source at all.

Additionally, of the 7 firms who reported that they would consider moving to Bloomberg, 3 were already subscribers to the service and 2 were actively reviewing it as part of their primary/secondary strategy.

In terms of funds, there was a little more balance, with 995 using Barclays, 387 SPDJI, 64 BAML and 3 Lipper.


12


Conclusions

There are a number of conclusions that can be drawn from these survey results, which we consider to be strongly representative of the industry as a whole. We believe that the ten most important points derived from the responses are:

1. The good response from municipal bond fund managers – especially the larger players – generally suggests that there is a desire in the industry to review their muni operations after many years of established status quo.

2. The use of IDCO and SPSE as primary and secondary sources for muni fund pricing is dominant in the sector.

3. The use of other muni pricing sources in addition to these two is minimal.

4. There is considerable concern in the sector about the possible acquisition of SPSE by ICE and what this would mean for their dual vendor approach. This has prompted a review of sources by many advisers.

5. This concern is most prevalent amongst the larger fund families. Smaller fund groups have either not deployed a dual vendor system or are already subscribing to alternatives.

6. The vast majority of funds reviewing their vendor alternatives are looking at all three of the main competitors to IDCO/SPSE – few had narrowed this down.

7. As the use of IDCO and SPSE as sources dominates pricing operations, so benchmarking against the Barclays Municipal Bond Index is paramount in fund performance measurement.

8. The vast bulk of funds benchmarked against Barclays were not considering switching to Bloomberg BVAL just because this might become the pricing source for index constituents.

9. However, many of these same funds were assessing BVAL as part of their wider pricing review.

10. Most of the firms who were considering switching to Bloomberg as a result of benchmark changes were already subscribers or were actively looking at the service already.

The … response … suggests that there is a desire in the industry to review their muni operations after many years of established status quo.


13


PRICING VENDORS

When it comes to the pricing of portfolio assets in mutual funds for the calculation of NAV, the SEC is very clear about the requirements and responsibilities. Market quotations must be used where ‘readily available’, and if not then the securities must be allocated a fair value. This fair value is to be determined ‘in good faith by the board of directors’. This approach is long standing and has been periodically restated in rulemaking and staff guidance, most recently in the Money Market Reforms of 2014.

The Commission allows the fund board to engage assistance in determining these fair values, but it cannot delegate the ultimate responsibility. In practice, the fund adviser and/or administrator typically performs the day to day fund pricing, including fair valuation, in line with policies and procedures set down by the board and overseen by a valuation committee.

It is also common – and in the muni market, as our User Survey shows, almost ubiquitous – for external pricing services to be deployed in this process. The 2014 guidance warned fund boards and their advisers that prices from these services are not in of themselves ‘fair values’ as defined under the 1940 Act. It also reminded fund boards that they should continuously review the appropriateness of such pricing sources, and make themselves aware of the methodologies, inputs and assumptions of these services in assessing their usefulness in helping to establish fair value.

We have written extensively on these broader mutual fund valuation issues, so would refer interested readers to our website for more opinion and information.

Pricing Sources for Municipal Bonds

With an average of only 40,000 trades per day in around 15,000 bonds when the outstanding market is 1.2 million active issues, it is clear that the bulk of municipal bonds are lodged with buy-and-hold investors who, for whatever reason, do not transact on a regular basis. This means that for daily NAV calculation purposes, market quotations are ‘readily available’ for only a very small proportion of mutual fund holdings.

As a result, muni mutual funds typically use evaluated pricing – valuations for securities that do not trade derived from information and data observed in the active market – when determining fair values. As we mentioned in our Introduction, and was confirmed by our User Survey, it is common for a mutual fund to use a primary pricing provider and compare this to a secondary source for quality assurance purposes – with Interactive Data and SPSE occupying these positions in 94% of funds we surveyed.

With the very real prospect of both these evaluated pricing sources being owned by Intercontinental Exchange (ICE) in the near future, our User Survey established that most funds (78%) in this position were considering their alternatives to maintain a dual pricing arrangement. This section of the report looks in detail at these options.

Before doing so, however, it is worthwhile also looking at the market pricing available for municipal bonds. Not only are these sources potentially usable directly as ‘readily available market quotations’, but they also provide the observable data and market ‘color’ for the evaluated pricing services.

… for daily NAV calculation purposes, market quotations are ‘readily available’ for only a very small proportion of mutual fund holdings.


14


Market Pricing

Transaction Prices - MSRB/EMMA Trade Reporting

Rule G-14 of the Municipal Securities Rulemaking Board (MSRB) requires the official reporting of virtually all purchases and sales of Munis for the purposes of market transparency and regulatory oversight. This is done via the Real-time Transaction Reporting System (RTRS) and, with a small number of exceptions, must be done within 15 minutes of the Time of Trade.

This data is made available to pricing vendors in data feeds, and free to the general public via the Electronic Municipal Market Access (EMMA) Portal. Trade information is posted on the EMMA portal usually within 5 minutes of receipt and currently represents around 40,000 daily trades on average.

Additionally, the MSRB provides historical trade pricing for Munis since the inception of RTRS in 2005, and this currently amounts to around 70 million trade data points.

A price discovery tool and a graphical view of trade prices, allows users to find and compare trade prices of municipal securities with similar characteristics, and also look at these over time to get a sense of valuation trends.

This data – which has a corporate bond market equivalent in TRACE, operated by FINRA – is incredibly important for all muni pricing methods. The reported trade prices themselves must be taken into consideration as a factor for asset pricing (although the board still has an obligation to satisfy themselves that these represent fair value in the specific context of their fund) and they also provide a crucial source of inputs into the evaluated pricing process.

(EMMA data) is incredibly important for all muni pricing methods. The reported trade prices themselves must be taken into consideration as a factor for asset pricing … and they also provide a crucial source of inputs into the evaluated pricing process.

Dealer Quotes

As well as reported transactions, municipal bond dealers operating in the market are also a source of market quotations and color. The MSRB has around 1,500 such dealers registered and many provide valuable price levels for securities, particularly local and specialized issues.

There are some strict rules surrounding dealer quotes and trades in the muni market. MSRB Rule G-18 covers Best Execution by dealers whether acting as agent or principal, and Rule G-30 insists on ‘fair and reasonable’ pricing including mark-ups or mark-downs and commissions. Similar best execution and fair and reasonableness strictures apply to broker’s brokers under Rule G-43.

Dealer trades must be reported to the MSRB and are disseminated via EMMA, so it is through the provision of quotes, typically on their inventory, where dealers add additional value and coverage to the trade feed. Note, however, that with muni dealer inventory down by 65% from 2007, according to the Federal Reserve, this coverage improvement is not so pronounced now as previously.

There are also challenges with getting hold of dealer quotes. Desktop systems such as Bloomberg and Thomson Reuters have dealer contributions in their services, either publicly available or via some kind of restricted ‘permissioned’ pages. The websites of the major dealers also offer pricing pages, again usually in a secure client login format. By far the most common method of retrieval though is in an ad hoc ‘manual’ fashion, via email or telephone. There are some vendor solutions aiming to improve this process (see Aggregated Market Pricing below).

Care should also be taken over the use of dealer quotes in the valuation process as recent consultation by the Public Company Audit Oversight Board (PCAOB) highlighted. The quality and freshness of the quotes can and does vary enormously.

Continued over page


15


Many dealers will only update quotes infrequently and without much real care and attention unless required to ‘firm up’ the quote in response to real buy or sell demand. For the bulk of dealers, ongoing valuation support is a chore.

There is also the issue of potential conflict of interest. Derived from using the same dealers or counterparties with whom trading activity is engaged to provide ongoing valuation for the trades resulting from that activity. It is in the interests of the dealer to keep their buy-side clients happy so that they will continue to do business with them, and producing a price that keeps the investor happy is never a good foundation for an objective valuation!

Care should … be taken over the use of dealer quotes in the valuation process …

Alternative Trading Systems (ATS)

As with dealers, trades made on ATS are reported to the MSRB, but bids, offers and RFQ’s are not. The SEC, in a 2012 report, expressed concern that such information is typically confined to the professional market of dealers, broker’s brokers and larger buy-side firms, and is not widely available to the public.

The Commission recognized that while these trading platforms account for a substantial portion of municipal securities transactions, they represent only a small percentage of the dollar volume, which supports the premise that they are used primarily for smaller, retail-size orders. Larger institutional trades tend to be effected through more traditional means, and thus do not generate any pre-trade price transparency outside of the bilateral negotiation process.

However, in one of the recommendations of its report, the SEC stated that:

“ The Commission could consider amendments to Regulation ATS to require an alternative trading system (ATS) with material transaction or dollar volume in municipal securities to publicly disseminate its best bid and offer prices and, on a delayed and non-attributable basis, responses to “bids wanted” auctions.” (Report on the Municipal Securities Market, U.S. Securities and Exchange Commission, July 31, 2012)

The main ATS in the muni market are:

Tradeweb

Tradeweb Direct offers Request for Quote (RFQ) and Click-to-Trade (CTT) functionality with streaming prices and the ability to submit orders on live markets. All transactions are anonymous up to the point of execution, at which time all users are notified of the identity of their counterparty and details pertaining to the execution. The firm claim that one in five of all muni trades reported to MSRB are transacted over the platform.

Tradeweb also operates a municipal bonds brokerage business through J.J. Kenny Drake, acquired in 2011.

TMC Bonds

TMC Bonds is a large U.S. ATS (owned by BAML, Citi, Morgan Stanley, and Assured Guaranty) and is the predominant execution venue for interdealer municipal bond trading. They generally execute 25+% of all interdealer muni transactions (based upon execution counts). TMC has a fully staffed voice brokerage desk that compliments electronic trading.

TMC Bonds’ Trader Workstation offers live and executable access to two-sided markets for taxable and tax-exempt muni securities as well as RFQs. TMC offers Market Data feeds via application programming interfaces (API) covering bids, offers, and bids wanted (RFQs). Coverage is around 50-60,000 unique muni CUSIPS.


16


KCG BondPoint

A unit of Knight Capital Group, specializing in odd-lot and micro trades in some of the less liquid sectors of the muni market. Executes around 1,500 muni trades per day and has a 10% market share in the $250k and under segment.

MarketAxess

MarketAxess, a leading electronic fixed-income trading platform, officially launched its municipal bond trading platform on May 2016. Market participants can now execute Exempts and Taxables leveraging MarketAxess’ multi-dealer Request-for-Quote (RFQ), bid/offer lists of up to 200 line items, and all-to-all Open Trading™ allowing participants to trade anonymously with all other participants.

The municipal bond trading platform offers full straight-through-processing that comply with best execution requirements.

MarketAxess currently has approximately 80 dealers and 250 institutional investor firms actively trading on their municipal bond platform, and they are expecting more to come.

Clarity Bidrate ATS

A trading platform for muni variable rate demand obligation (VRDO) issues. VRDOs are long term municipal bonds with floating interest rates that are reset periodically, typically weekly. Along with auction rate securities, the securities were attractive to municipal issuers because they allowed for the sale of long-term obligations using lower short-term interest rates. They offered investors a better return than traditional money market investments. The market suffered dramatically in the wake of the 2008 Lehman bankruptcy crisis and has yet to fully recover.


17


The Karn Group (TKG)

TKG integrates FINRA and MSRB publicly reported trade data and comparable security pricing when generating a fair value (indicative) price for pre-trade, realtime and end-of-day pricing. They disseminate in real-time and end-of-day both FINRA and MSRB reported trades but also bid/offer information provided by ATS.

TKG can also integrate MBIS bid/offer information into the pricing service pre-trade, real-time and end-of-day.

Features:

• Real-time Pricing of Municipal and Corporate bonds.

• Comparable Security Referenced Prices

• Historical Time and Volume Weighted Average Prices (TVWAP)

• End-Of-Day Pricing Files

Prices can be viewed through TKG applications or delivered as messages via FIX or Web Services (TCP/IP) to third party applications, an ATS or an Order Management System

Aggregated Market Pricing

As can be seen from the previous sections, market pricing for municipal bonds can be generated in a large number of different spheres and it is a huge challenge to access, process and analyze this data. As we mentioned previously, there has been a vendor effort to simplify this.

Municipal Bond Information Services (MBIS)

Municipal Bond Information Services is a group of eleven firms, including ten that specialize in municipal inter-dealer brokerage, that have assembled to create a consortium for the purpose of aggregating the market data generated by businesses of these entities.

MBIS provides dealer bid/offer information plus data from ATS on around 20,000 issues. This includes current and historical information access to the market and public by aggregating bid and offer data on municipal bonds. The data is available intra-day, refreshed every 5 minutes, and is also available in an end of day bulk feed.

Access to all bids captured as part of the bids wanted process that are made available upon completion of allotted bidding time window. On average, 30-40,000 bids are available daily on over 10,000 Bids Wanted items representing over $300 million dollars in volume.

Access to aggregated offerings from each of the contributing members. The offerings are provided throughout the day and include updates to the original offerings. On average, over 100,000 offerings are available on over $50 billion dollars in assets.

MBIS can also integrate bid and offering data with trade information to present access to a consolidated source of pre-trade pricing information.

…market pricing for municipal bonds can be generated in a large number of different spheres and it is a huge challenge to access, process and analyze this data.


18


Evaluated Pricing

As mentioned earlier, the deficiencies of market pricing mean that muni mutual funds typically use evaluated pricing consider in their valuation processes. The rationale for this section of the Report was to consider the some of the alternatives to the ‘big two’ municipal evaluation services – Interactive Data and SPSE. However, for the purposes of comparison, we first review the offering from these two firms and then look at the products of the three major vendor competitors. Finally, we consider a smaller, niche players in the space utilizing new cloud-based technology.

Interactive Data (IDCO)

Coverage of approximately 1.1 million active U.S. municipal bonds, including investment grade, high yield, derivatives, single and multi-family housing, and taxable municipals (BAB, Student Loan, Public Improvement)

Interactive Data’s reference data covers approximately four million active and historical municipal bonds sourced from authoritative and official sources. Information includes basic descriptive data, expanded terms and conditions, default information, ratings, call and sinking fund schedules, use of proceeds, disclosure information and obligor information.

… muni mutual funds typically use evaluated pricing – valuations for securities that do not trade derived from information and data observed in the active market – when determining fair values.

Standard & Poor’s Securities Evaluations (SPSE)

Valuation coverage for:

• 1.49 million tax-exempt municipal bonds

• 81,000 certificates of deposit/municipal commercial paper

• 65,000 taxable municipal bonds

Municipal Bond Benchmark Yield Curve constructed using a series of judgments about observable data. Staff include:

• 55 pricing analysts with an average of approximately 14 years of experience

• 150 data operations and support staff

Web-based transparency portal includes historical valuations, trade information, a built-in price challenge tool and increased transparency across all asset classes.

Also produce Credit Quality Indicators to provide insights into the credit quality of debt securities issued by state and local governments, government-owned facilities, public authorities and agencies including:

• Credit ratings and research for over 19,000 public issuers

• Reported financial statement information for over 10,000 public issuers

• Indices that measure the strength of local real estate markets, consumer credit default rates and the relative performance of municipal bonds


19


Bloomberg BVAL

BVAL is Bloomberg’s evaluated pricing service, using data-driven models that are monitored by a team of municipal market analysts. BVAL approach first corroborates market levels on actively traded bonds and then derives a comparable relative value price for those securities that are less liquid.

The BVAL Price is derived using a dual approach based on a weighted combination of proprietary BVAL algorithms.

Step One – Direct Observations uses MSRB trades and indicative quotes on the Target Bond.

Step Two – Observed Comparables uses direct observations on comparable bonds to derive a relative value price on the Target Bond when direct observations are insufficient.

To corroborate the results of each algorithm, market data is run through both steps. The Final BVAL Price is determined by aggregating the weighted average of Direct Observations and Observed Comparables, which is based on the relative strength of each algorithm.

Coverage:

• 950k+ bonds priced every day

• 60k+ issuer and sector curves

• 250+ value added data fields

• Municipal AAA Benchmark Curve (BVAL Muni AAA Bench) published hourly

Staff include:

• 3 product managers • 12 developers • 13 market experts • 100+ data specialists

BVAL provides two end-of-day snapshots at 3pm and 4pm EST. BVAL is integrated into the Bloomberg Professional service functions such as Portfolio and Risk Analytics (PORT). BVAL is also integrated into buy-side and sell-side Trading Solutions order management systems, as well as Regulatory and Accounting Products, such as Fair Value Hierarchy Leveling (FVHL).

Price challenges or questions can be submitted via the Bloomberg Professional service, or via the customer portal at service.bloomberg.com. The BVAL transparency screens are available to all 350K Bloomberg terminal users and are backdatable.

Key features:

Proprietary Call Model – BVAL’s call model calculates an expected redemption date for all callable bonds based on several factors including the coupon, time to next call date and implied refinancing rate from the BVAL curve. This methodology allows BVAL to normalize the call option value for callable bonds.

BVAL Score – Bloomberg terminal and enterprise data feed displays the data inputs and models used to determine the final BVAL price. The BVAL methodology also assigns a BVAL Score based on the amount and consistency of market data used in the pricing models.

Par Issuer Curve Model – This methodology first normalizes the Target Bond for structural and technical characteristics such as: low coupon, sinking fund, non-rated and Alternative Minimum Tax (AMT) status.

These normalized bonds are then used to derive a par issuer curve based on direct market observations across an issuer’s term structure. A Target Bond with no market observation is algorithmically priced using the appropriate point on a par issuer curve.

If a par issuer curve cannot be created from direct market observations on bonds within the same issuer, then an appropriate municipal sector curve (i.e., power, transportation, water/sewer, higher education) is used to price a Target Bond.


20


Markit

Markit’s municipal pricing methodology incorporates the financial condition of each state and municipality, uses of proceeds and other factors at the issue level to drive movements in price. The methodology also incorporates market color derived from parsing technology that extracts OTC pricing content from messages in real time.

Coverage – 1.1 million tax-exempt bonds and 55, 000 taxable municipal bonds. Pricing delivered at 3pm and 4pm EST.

Transparency – Pricing files include price and yield data, standard reference data and transparency metrics including trade and quote counts along with liquidity scores.

Quality assurance – price break reports and yield curve movements validated multiple times prior to delivery batch. Adjustments, including analysts’ comments, are stored in a central database for easy accessibility. Tracking accuracy compared to MSRB round lot trade prices.

Challenges – received electronically and maintained within a centralized system and assigned to the appropriate analyst. Detailed responses containing analyst pricing methodology are provided back within 24 hours.

Markit also operates the benchmark index for muni CDS in MCDX.

Thomson Reuters

Coverage includes investment grade and high yield bonds including the following structures: fixed rate, zero coupon, callable, puttable, serial bonds, adjustable rate, and certain derivatives. Each issue is priced by incorporating its individual characteristics.

Terms and Conditions - Full terms and conditions are collected and maintained by Mergent.

New issue information – gathered from official prospectuses, offering documents, and electronic feeds obtained from public document libraries as well as direct underwriter solicitation.

Thomson Reuters Evaluation Staff – Municipal securities are evaluated within Thomson Reuters Pricing Service (TRPS), a group of over 150 professionals with trading, sales, analytics, and evaluation backgrounds. Municipal bond evaluators are organized by market sector (investment grade and high yield) and are responsible for gathering quotes, reviewing trades, and updating credit curves daily. They also maintain “street” contacts that enable them to obtain up-to-date market information.

Market Data Inputs – Municipal securities are evaluated using an attribute-based modeling system driven by and calibrated by observable market data. Muni sector curves (typically called “scales” in the muni market) are constructed by evaluators based upon observed market data. The market provides several inputs that can be used in the evaluation process. The hierarchy of inputs includes trade prices, broker quotes, the new issue market, and comparable securities.

Proprietary Credit Curves and Attributes – The foundation for Thomson Reuters municipal evaluations is a credit curve attribute model. All issues are evaluated based upon attributes including (but not limited to) sector/type, credit rating, coupon, maturity, use of proceeds, and redemption schedules. Each bond is priced using the most appropriate credit curve, and adjusted for its individual attributes.


21


Thomson Municipal Market Data (MMD) AAA Curve – Thomson Reuters Municipal Market Data (MMD) AAA Curve is a proprietary yield curve that provides the offer-side of “AAA” rated state general obligation bonds, as determined by the MMD analyst team.

Market News – a variety of news sources generally recognized as authoritative by the muni market including The Bond Buyer, Thomson Reuters News services, and Municipal Market Data News ticker, as well as other major news sources.

Quality Control Checks - Various quality control tests are incorporated into the evaluation process including daily report showing a change in price due to a change in data, all bonds moving by more than a predetermined percentage (a 2% tolerance threshold is used for municipal bonds) and a report comparing actual trade prices against evaluated prices.

Best Credit Data

Best Credit Data delivers daily evaluations (prices) representing approximately 1.25 million municipal bond products in the US market, including investment grade, high yield, derivatives, single and multi-family housing, and taxable municipals (BAB, Student Loan, Public Improvement). 8 years of history available.

BCD collects transactional pricing data, bid-offer pricing data, positions data from government cash management and pension plans (state / federal / local), Insurance companies, ETF’s, open and closed end mutual funds. Then runs a weighted regression analysis to reconcile all of these observations into a single price. When comparing bonds that haven’t traded in more than 15 days, the BCD Evaluated Price comes within 3% of tomorrows trade 96% of the time.

Transparency reporting includes the number of pricing points used for input, details on the type of pricing points (transactional or institutional), curve analysis and correlation analysis used. Reports also contain a BCD Confidence Quotient, which assesses the quality of each BCD pricing point.

Distribution is through vendor partners - Exchange Data International, FactSet, Mergent, Rimes and Xignite.


22


BENCHMARKS & INDEX PROVIDERS

The business of measuring fund performance is a comparative exercise, benchmarking an individual funds returns against an overall market or peer group proxy. The objective is to convey the performance of a fund in the context of its underlying market, to give the return some frame of reference.

There are effectively three options available to funds undertaking such an exercise:

• Broadly-based market index families

• Higher level yield indices

• Returns of the fund’s peers

The most common of these methods used by muni mutual funds is the first option (although they may also review the other two), and it is in this category that our outstanding development with the Barclays/Bloomberg index falls. This section will also briefly review the other alternatives.

Index Families

The bond index family approach is popular amongst mutual funds since it provides the ability to benchmark against an index much more closely aligned to the fund’s holdings and investment strategy. It is not helpful, for instance, for a state-specific high yield muni fund to benchmark against a national, investment grade index, since the comparison is not valid or relevant.

The benefit of a broadly-based muni index, broken down into sub-indices of different market segments, is that mutual funds can choose the most appropriate segment against which to compare its performance and returns. There are three such index families in the municipal bond world – Barclays, BAML and SPDJI - and their characteristics are described below.

As mentioned in the Introduction, the choice of index can have an influence on the pricing and valuation of the fund benchmarked against it. Because of the large numbers of bonds eligible for the broad-based index families, true market pricing is insufficient for their needs for all the reasons described in the previous section. As a result, these indices tend to use evaluated pricing vendors to price the bonds used as constituents in the index.

This is an important consideration for funds benchmarking against an index. If the fund uses a different vendor to that providing prices for the index constituents, then there is a risk that the measured performance of the fund may differ from that of the index purely as a result of using different underlying price sources rather than any investment strategy implications. This is known as ‘tracking error’ and calculating and explaining this is a typically unwanted by-product of these choices.

Consequently, vendors pricing the main benchmark indices have an advantage over their competitors since funds may choose to use the same pricing provider for fund NAV calculations to avoid such tracking error. Herein lies the issue with the Bloomberg index changing its constituent pricing from Interactive Data to BVAL. Unless the funds benchmarking against this index (and they are many, 69% of our User Survey) also change their pricing source, then they will likely have to address a tracking error should they continue to benchmark against this index. Our survey results revealed that few (62%) currently intend to change their fund pricing source for this reason alone.

The business of measuring fund performance is a comparative exercise …

… vendors pricing the main benchmark indices have an advantage over their competitors since funds may choose to use the same pricing provider for fund NAV calculations to avoid … tracking error.


23


The other alternative for a fund is to change the index against which they benchmark to one using the same constituent price sources as the fund. In the case of broadly-based indices, the other options in this market are BAML and SPDJI (both reviewed below). Given that both of these firms currently use SPSE as their constituent pricing source, this raises a very intriguing scenario.

Bloomberg is looking to replace Interactive Data with BVAL for their index pricing with a view, no doubt, to also promoting BVAL as a primary municipal bond mutual fund pricing source. Our User Survey suggests that there is still some work to be done here, though. Bad news for Interactive Data? But as we have already discussed, Interactive’s owner, ICE, is looking to buy SPSE, who price the constituents for the other two muni index families. So, assuming SPSE is integrated into Interactive Data, this unit could find itself squeezed out of one index, only to pick up pricing of the other two. Musical chairs indeed!

For the index and pricing user, these somewhat confusing considerations should be fully taken into account when determining benchmarking strategy.

Barclays Municipal Bond Index

The Barclays US Municipal Bond Index is a broad-based benchmark that measures the investment grade, US dollar-denominated, fixed tax exempt bond market. The index includes state and local general obligation, revenue, insured, and pre-refunded bonds. The US Municipal Index was incepted in January 1980.

The Barclay’s Capital Municipal Bond Index currently contains approximately 46,000 bonds. To be included in the index, bonds must be rated investment-grade (“Baa3/BBB-” or higher) by at least two of the following ratings agencies: Moody’s, Standard & Poor’s and Fitch, if all three rate the bond. If only two of the three agencies rate the bond, the lower rating is used to determine index eligibility. If only one of the three agencies rates a bond, the rating must be investment-grade.

To be included in the index, bonds must have an outstanding par value of at least $7 million and be issued as part of a transaction of at least $75 million. The bonds must be fixed rate, have a dated-date after December 31, 1990, and must be at least one year from their maturity date. Remarketed issues, taxable municipal bonds, bonds with floating rates and derivatives are excluded from the benchmark.

The Barclays US Municipal High Yield Index measures the non-investment grade and non-rated US dollar-denominated, fixed-rate, tax exempt bond market within the 50 United States and four other qualifying regions (Washington DC, Puerto Rico, Guam and the Virgin Islands). The index allows state and local general obligation, revenue, insured, and pre-refunded bonds, however, historically the index has been comprised of mostly revenue bonds. The US Municipal High Yield Index is a stand-alone index with no crossover into other Barclays taxable indices, such as the US High Yield Index. Index history is available through October 1, 1995.

All constituents of the Barclays Municipal Indices are currently priced by Interactive Data, daily at 4pm EST.


24


The BofA Merrill Lynch (BAML) US Municipal Securities Index

The BAML US Municipal Securities Index tracks the performance of US dollar denominated investment grade tax-exempt debt publicly issued by US states and territories, and their political subdivisions, in the US domestic market. Qualifying securities must have at least one year remaining term to final maturity, at least 18 months to final maturity at the time of issuance, a fixed coupon schedule and an investment grade rating (based on an average of Moody’s, S&P and Fitch). Minimum size requirements vary based on the initial term to final maturity at time of issuance.

Securities with an initial term to final maturity greater than or equal to one year and less than five years must have a current amount outstanding of at least $10 million. Securities with an initial term to final maturity greater than or equal to five years and less than ten years must have a current amount outstanding of at least $15 million. Securities with an initial term to final maturity of ten years or more must have a current amount outstanding of at least $25 million. The call date on which a pre-refunded bond will be redeemed is used for purposes of determining qualification with respect to final maturity requirements. Original issue zero coupon bonds are included in the Index. Taxable municipal securities, 144a securities and securities in legal default are excluded from the Index.

The main index family consists of around 250 sub-indices based on credit rating, bond type, maturity and proceeds type. BAML also produce indices for Build America Bonds and Taxable Municipals.

The constituents of the main Municipal Index are priced daily at 4pm EST by Standard and Poor’s Securities Evaluations (SPSE). The taxable munis and BAB’s are priced by Interactive Data.

S&P Dow Jones Indices (SPDJI)

The S&P Municipal Bond Index is a broad, comprehensive, market value-weighted index. Launched in 2000, this index family has over 15 years of live index time series. All bonds in the index are exempt from U.S. federal income taxes, but may be subject to alternative minimum tax (AMT). The index tracks over 91,000 bonds with a total market value of over $1.7trillion. The broad scope of this headline index permits SPDJI to create a myriad of sub-indices for differing investment objectives.

To be included in the index, bonds must be fixed rate and have a minimum par of $2 million outstanding. This permits the flexibility of creating sub-indices with larger deal size and par amount minimums to meet the needs of differing investment objectives.

Index returns and other statistics are calculated daily. The S&P Municipal Bond Index constituents undergo a monthly review and rebalancing in order to ensure that the index remains current while avoiding excessive turnover.

The index is rules based, although the Index Committee reserves the right to exercise discretion when necessary. The hallmark of a rules-based index is transparency and, broadly speaking, predictability. As an aide to transparency, the methodology document sets out the rules by which the index is governed, index calculation and management procedures, and the various formulae used to calculate index returns and other statistics. Methodologies, factsheets and 10 years of Index levels and characteristics are freely available on S&P Dow Jones Indices website.


25


The S&P Municipal Bond Index consists of a broad-based main index, as well as sub-indices. Sub-indices include coverage of all States & territories, sectors, quality and maturity ranges.

All constituents of the S&P Municipal Bond Indices are priced by Standard and Poor’s Securities Evaluations (SPSE), daily at 4pm EST.

S&P publishes many other municipal bond indices including taxable municipal bond indices, indices designed for passive investing, indices that track bonds maturing in specific years as well as sector based indices.

The S&P Municipal Bond Indices resident within a variety of analytical platforms including RIMES, Factset, Bloomberg and Investortools PERFORM.

High Level Market Indices

Market price and yield indices are useful in providing a gauge for the movement of the underlying municipal bond market, but are typically not used by mutual funds for full scale performance measurement due to the narrow nature of their composition.

Bond Buyer Municipal Bond IndicesThe Bond Buyer, a daily newspaper covering the municipal bond market, publishes indices that estimate prices and/or yield levels for various groups of municipal securities. The Bond Buyer Municipal Bond Index (also known as The Bond Buyer Index, MBI, or BB40) has been published daily since 1985 and is designed to capture yields for 40 recently issued actively traded municipal bonds. The Municipal Bond Index served as the reference index for the municipal bond futures contract sold on the Chicago Board of Trade between 1985 and 1999.

The index is anchored in a detailed series of bond-selection criteria. The Bond Buyer’s editorial staff adjusts the components of the index twice monthly, adding all new issues that meet the selection criteria and deleting those whose secondary market trading has become less active.

The prices for the components are obtained from Standard & Poor’s Securities Evaluations.

The Bond Buyer also publishes four yield indices on a weekly basis. These indices, based upon estimates from active traders and underwriters, reflect the yields that would be offered to investors if an issuer were to bring certain types of municipal securities to market at par on a given day. The indices represent theoretical yields rather than actual price or yield quotations. Contributing market participants are asked to estimate what a current-coupon bond for each issuer in the indices would yield if the bond was sold at par value. The indices are simple averages of the estimated yields of the bonds. These indices are updated weekly and are available via a subscription to The Bond Buyer.

20 Bond General Obligation IndexThe 20-Bond Index consists of 20 state, city and county general obligation bonds that mature in 20 years. The average rating of the 20 bonds is roughly equivalent to Moody’s Investors Service’s (Moody’s) “Aa2” rating and Standard & Poor’s (S&P) “AA.” The index provides an estimate of the yield that would be offered on 20-year general obligation bonds. The index has been calculated weekly since 1946. Less-frequent quotes are available dating to 1900.

11 Bond General Obligation IndexThe 11-Bond Index uses a select, generally higher-rated group of 11 bonds from the 20-Bond Index. The average rating of the 11 bonds is roughly equivalent to Moody’s “Aa1” and S&P’s “AA+” and has the same 20-year maturity focus as the 20-bond index.


26


Revenue Bond IndexThis index consists of 25 various revenue bonds that mature in 30 years. The average rating is roughly equivalent to Moody’s “A1” and S&P’s “A+.” This index provides an estimation of the yield that would be offered on 30-year revenue bonds. The 25 issuers used for this index cover a broad range of types of issues (transportation, housing, hospital, water and sewer, pollution control, etc.). The revenue bond index was first calculated September 20, 1979.

One-Year Note IndexThe one-year note index has been calculated since July 1989 and consists of 10 states and cities that are regular issuers of cash-flow notes.

Municipal Market Analytics (MMA) Benchmarks MMA provides a AAA 5% and a AAA par coupon curve on a daily basis to help market participants discern risk and value for both issuers and investors.

Median Par AAA General Obligation (G.O.) The MMA AAA Median yield data emanates from between 20 and 30 representing the variety of dealer and investor evaluations. The MMA AAA Median represents a “mid-market” yield allowing for a more broadly applicable portrayal of cross-market spread relationships and clearing levels. Levels are based on a “Natural ‘AAA’ G.O. credit” (i.e. not pre-refunded or insured) with Maryland G.O. used as a general guide. The data is aggregated and outliers removed through a two-step process. Ranges of the input are distributed with the final median benchmark for better market understanding of the data and market conditions. The coupon rate has been held consistent as the current coupon rate since 1999 for historical analytical purposes. Call provisions are a standard 10-year par call.

MMA AAA Median Data is currently available via Bloomberg, TMC, Thomson Reuters and Knight Bondpoint. Data is made available by 3:30 p.m. eastern time to all market participants simultaneously.

MMA 5% AAA General ObligationMMA’s 5% “AAA” focuses on general obligation bonds and excludes pre-refunded or insured bonds. MMA yields are derived from evaluations from seven of the largest municipal underwriting firms of the current level of “AAA” yields based on secondary and primary market transactions. Each day, the participating municipal underwriting firms provide their assessment of bid-side yield to call levels for “AAA” five percent coupon, 10-year par call, tax-exempt municipal bonds based on trades in excess of $2 million. MMA receives a yield curve of 2 to 30-year maturities from each firm. The high and low for each maturity are dropped and the average of the remaining five underwriting firms is calculated. Coupon can be changed with consensus of participating firms to match market conditions.

The MMA five percent data is available directly from MMA or via Bloomberg (CMMA). Data is made available by 3:30 p.m. eastern time to all market participants simultaneously.

AP/MBISIn April 2016, The Associated Press and Municipal Bond Information Services (MBIS) announced the creation of the AP Municipal Bond Index, built on market data aggregated from the MBIS member firms.

The AP Municipal Bond Index will be based on observable, intraday pre-trade and trade data and will be launched in the second half of 2016, with beta versions currently available. Andrew Kalotay & Associates has been engaged to build the index calculation engine.


27


Fund Peer Group Benchmarks

An alternative way for funds to track and report their performance is to benchmark against their peers in the sector, rather than against a defined index of invested assets. In this way, returns from funds with the same investment strategy can be compared against each other and a ‘league table’ of performance can be produced.

There are two main firms providing mutual fund classifications and sector benchmarks.

An alternative way for funds to track and report their performance is to benchmark against their peers in the sector, rather than against a defined index of invested assets.

Lipper

Lipper Sector Indices analyze fund performance relative to peers using indices that track the total return performance of the largest funds (10 or 30) within Lipper categories. These indices provide performance benchmarking plus access to daily history and performance for up to 11 time periods.

The purpose of the Lipper fund indices is to provide measurements of the central tendency of similar investments objectives. The indices may be used to describe the returns that an investor could reasonably have expected to achieve in the past. Dominance of an index by a single fund is prevented by equally weighting component funds each quarter.

Year-end total net asset values (TNA) are used to determine the components of the indices. This rule applies to past years as well as current and future years. This selection process is repeated every year-end.

There are over 400 homogenous groups of funds to compare “like for like” fund mandates and refine comparative analysis. Data includes more than 70 relative and absolute measures of risk and return.

Morningstar

Morningstar provides current and historical total return data for municipal bond mutual funds in a series of categories.

In addition, the company produces the Morningstar Rating for funds, often called the “star rating”. The Morningstar Rating is a quantitative assessment of a fund’s past performance — both return and risk — as measured from one to five stars. It uses focused comparison groups to better measure fund manager skill.


28


OTHER RELEVANT DATA & SERVICESThe preceding review briefly covers the main vendor options when it comes to municipal bond pricing (in all its various forms) and benchmarks. However, there are a number of other providers operating in the muni market whose service offerings are relevant to these operational processes and who we feel it is important for readers to be aware of.

These other services fall into two categories; a) Key inputs (either data or analytic) into the main pricing and/or benchmarking

services;

b) Aggregation, filtering or presentational software allowing for the interrogation and analysis of muni pricing

Data & Development InputsTo produce pricing and valuation for municipal bonds, in addition to suitably experienced analysts and relevant market data, two other key factors are required – reference data on the bonds (terms & conditions, corporate actions, etc.) and a pricing engine to actually calculate the data. In both cases, these requirements can either be developed in house or outsourced to an external party.

In the case of Interactive Data, SPSE and Bloomberg, much of the work is done in house, but Markit and Thomson Reuters have both outsourced their reference data collection and pricing engine management. We review the firms who provide these services below, and also consider another analytics provider active in the municipal bond market.

To produce pricing and valuation for municipal bonds, in addition to suitably experienced analysts and relevant market data, two other key factors are required – reference data on the bonds … and a pricing engine to actually calculate the data.

MergentMergent offers a variety of data feeds to information resellers, corporations, financial institutions, portals and other content providers. Mergent’s databases contain key financials, fundamental and descriptive data from more than 15,000 U.S. public companies, 20,000 non-U.S. public companies from 100 countries, and 20,000 U.S. municipal bonds issuers, as well as extensive corporate bond, unit investment trust, corporate actions, mutual fund and dividend information.

Issue detail on over 2 million municipal bonds including General Obligation and Revenue bonds, Industrial Development and Pollution Control Bonds, Healthcare bonds and Housing bonds.

Both Markit and Thomson Reuters use Mergent muni reference data.

CapeLogicThe Mergent muni data collection system was developed by CapeLogic, and this firm also creates and supports muni evaluation systems for Markit and Thomson Reuters.

• Evaluation application capabilities facilitate:

• Business rule classification for how securities are grouped and modeled (new and existing, changes from material events, etc.).

• Receipt and assessment processes for: market yield credit curve creation, muni transaction trade data, bid & offer quotations and other non-transaction trade data,

• Evaluation vs. market trades/color exception reporting

• Bond attribution price modeling and inter-day security evaluations generation

• QA & Compliance controls, evaluation price tolerance reviews, etc.

CapeLogic also independently prices Unit Investment Trusts (UIT’s).


29


Kalotay Analytics

Kalotay Analytics provides valuation and risk management software to the fixed income markets. This includes software development kits (SDK’s) for the municipal market with particular emphasis on Option Adjusted Spread (OAS) and after-tax analysis. Kalotay has been engaged to develop the index methodology and calculation engine for the new AP/MBIS muni index.

Other Software & Analytics

In addition to vendors providing services as inputs into the pricing or benchmarking process, there are others who service the muni market with price management and analysis products which are relevant to our discussion. We briefly highlight them here.

BondWaveBondWave is a financial technology company and registered investment advisor that provides solutions to facilitate individual bond investing.

Bond Pricing Analysis monitors trades for price transparency and best execution. Dealers have an increased responsibility to demonstrate that prices charged to customers are fair and reasonable in relation to prevailing market conditions. BondWave provides a number of analytical and reporting tools designed to help bond specialists and advisors assess pricing in proposals and investment strategies.

Product Features

• MSRB and TRACE trade data is updated at regular intervals throughout the day to support bond pricing and liquidity analysis functions

• Pricing information is available interactively or in graphical report format and includes data for sale-to-customer, dealer-to-dealer, and purchase-from-customer trades.

• Price discovery reports may be included with electronic proposals

• Pricing information may also be based on ‘similar’ bonds and for fixed income investment strategies.

LumesisLumesis is a financial technology company focused on providing business efficiency, regulatory and data solutions to the municipal bond marketplace. Lumesis was founded in 2010 currently helps hundreds of firms with over 43,000 users to meet regulatory, credit and risk needs.

The DIVER platform currently has over 6 million bonds in the database and has a number of solutions including:

DIVER Advisor is designed to help firms address MSRB Time of Trade Disclosure (G-47), Best Execution (G-18), Suitability (G-19) and Supervision (G-27) rules when trading municipal bonds.

Diver Underwriter helps perform 15c2-12 diligence in a post-MCDC environment.

DIVER Analytics is a web based suite of dashboard, analytical, and visualization tools focused on the key economic and demographic drivers of municipal economies.

DIVER Data Solutions offers direct access to Lumesis data to address unique client needs. Offerings include hundreds of data sets, data feeds and ongoing reporting.


30


OUTLOOK & CONCLUSIONS

A Sea Change in the Industry

It is little wonder that users of mutual fund bond pricing and benchmark services are less than thrilled at the extra work these recent developments represent, even if Bloomberg and ICE are putting a spin on their acquisitions as being positive for the market in the future.

Our own view is that this represents a sea change in the Municipal Bond pricing and performance measurement landscape and the market needs to accept and adjust to this. Whatever happens with Interactive Data and SPSE under ICE ownership, users should start planning now for this new pricing and index world.

Looking specifically at how these developments impact a fund’s operations both now and in the future is a regulatory requirement for the fund directors and its officers anyway, so the SEC will certainly expect to see this assessment in board discussions and minutes.

Should a change in, or addition of, a pricing service provider be required, the Commission also expects appropriate due diligence to be done on the vendor before engaging them (as we have discussed previous commentary). This necessarily takes time, as does the migration process from one vendor to another, so it is prudent to start evaluating the alternative options in some detail now.

In addition, it is clear that a segment of the fixed income markets that has been a relative stranger to operational change over many years has suddenly come to life, and we should expect and anticipate further developments as a result of this in the future. Technical and infrastructure change, new vendor entrants and exits and regulatory scrutiny will all contribute to this and we would strongly advise interested parties to keep a watchful eye on this market over the next couple of years.

… this represents a sea change in the Municipal Bond pricing and performance measurement landscape and the market needs to accept and adjust to this.

About Voltaire Advisors

Voltaire Advisors are specialists in Valuation Risk with deep domain knowledge of valuation methods, sources, data and processes not available to more general financial consulting and advisory firms. We work with a variety of clients in the valuation risk area, ranging from users and regulators through to vendors and other service providers. Valuation Risk is inherent and unavoidable for many financial asset classes, and one can never eliminate the risk entirely. The main issue associated with this is how to recognize, classify and subsequently control this. Voltaire Advisors can help you achieve this.

For more information go to www.voltaireadvisors.com

As a famous General once said, time spent in reconnaissance is seldom wasted!


31


USEFUL LINKS

Industry

SEC - https://www.sec.gov/

MSRB - http://www.msrb.org/

SIFMA - http://www.sifma.org/

National Federation of Municipal Analysts (NFMA) - http://www.nfma.org/

Pricing Sources

EMMA - http://emma.msrb.org/

Tradeweb - http://www.tradeweb.com/

TMC Bonds - https://www2.themunicenter.com/

KCG BondPoint - https://www.kcgbondpoint.com/index.jsp

MarketAxess - http://www.marketaxess.com/

Clarity Bidrate - http://www.claritybid.com/

MBIS - http://mbis.com/

TKG - https://karngroup.com/

IDCO - http://www.interactivedata.com/

SPSE - http://www.spcapitaliq.com/disclaimers/spse-evaluated-pricing

Bloomberg - http://www.bloomberg.com/enterprise/content-data/pricing-data/

Markit - http://www.markit.com/Product/Pricing-Data-Bonds-Municipal

Thomson Reuters - http://financial.thomsonreuters.com/en/products/data-analytics/market-data/evaluated-pricing-data.html

BCD - https://www.bestcreditanalysis.com/

Index Providers

Barclays - https://index.barcap.com/

BAML - http://www.mlindex.ml.com/GISPublic/Default.asp

SPDJI - http://www.spdji.com/

The Bond Buyer - http://www.bondbuyer.com/

MMA - http://www.mma-research.com/

Lipper - http://lipperalpha.financial.thomsonreuters.com/

Morningstar - http://www.morningstar.com/

Other Relevant Municipal Data & Services

Mergent - http://www.mergent.com/

CapeLogic - http://www.capelogic.com/

Kalotay Analytics - http://www.kalotay.com/

BondWave - http://www.bondwave.com/

Lumesis - http://lumesis.com/

We…• Provide bespoke advice to users

and service providers tasked with valuing and overseeing the risk of financial assets;

• Publish unique and acclaimed research and analysis into key aspects of valuation risk, and;

• Organize important workshops and briefings bringing together regulators, users and service providers of valuation data, analytics and models.

Special ists in Valuation Risk

VoltaireADVISORS

Common sense is not so Common.

To learn more about us or our service offering,

please contact us:

Voltaire Advisors 14 Wall Street

New York, NY 10005

1-800-317-1932

Voltaire Advisors

No.1 Poultry London, EC2R 8JR

0800 677 1694

e: [email protected] w: www.voltaireadvisors.com


Button 2: Page 1: OffPage 21: OffPage 32: OffPage 43: OffPage 54: OffPage 65: OffPage 76: OffPage 87: OffPage 98: OffPage 109: OffPage 1110: OffPage 1211: OffPage 1312: OffPage 1413: OffPage 1514: OffPage 1615: OffPage 1716: OffPage 1817: OffPage 1918: OffPage 2019: OffPage 2120: OffPage 2221: OffPage 2322: OffPage 2423: OffPage 2524: OffPage 2625: OffPage 2726: OffPage 2827: OffPage 2928: OffPage 3029: OffPage 3130: Off

Button 3: Page 1: OffPage 21: OffPage 32: OffPage 43: OffPage 54: OffPage 65: OffPage 76: OffPage 87: OffPage 98: OffPage 109: OffPage 1110: OffPage 1211: OffPage 1312: OffPage 1413: OffPage 1514: OffPage 1615: OffPage 1716: OffPage 1817: OffPage 1918: OffPage 2019: OffPage 2120: OffPage 2221: OffPage 2322: OffPage 2423: OffPage 2524: OffPage 2625: OffPage 2726: OffPage 2827: OffPage 2928: OffPage 3029: OffPage 3130: Off

voltaire advisors, june 2016...

Documents