securities valuations: a primer

Securities Valuations: A Primer

The When, Why, What, How and Who of Evaluated Pricing

Barry S. Raskin, Managing Director, SIX Telekurs USA Inc.

2011 FIRMA National Risk Management Training Conference, April 20, 2011

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Contents

• About SIX Telekurs

• Securities Valuations and Evaluated Pricing− When?− Why? − What?− How?− Who?

• And I should care because…?

Atlanta, 20 April 2011 2

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SIX Group – a world leader in securities processing, trading and financial data

• Revenue of over 1.354 bn USD (2010)

• Approximately 3,800 employees

• Present in 23 countries around the globe

• SIX Swiss Exchange• STOXX• Scoach• SIX Exfeed• Eurex• Swiss Fund Data

Securities Trading

• SIX x-clear: Clearing• SIX SIS

1) Settlement

2) Custody

3) Administration• SIX SAG

Securities Services

• Stock exchange data• Index data• Evaluation data• Information for securities

administration• Corporate Actions

Financial Information

• Interbank payments in CHF and EUR

• Card business• POS services• LSV (direct debits) /

PayNet

Payment Transactions

Key figures


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About SIX Telekurs

• Gather & distribute all information for securities administration and valuation− Security master/descriptive data− Corporate actions & events− Payments & Distributions− Pricing− Compliance information− Class actions− ETF & index constituent data− Custom solutions

• Founded in Zurich in 1930

• Stable ownership & corporate structure

• Direct presence in 23 countries

• Nearly 1,290 employees worldwide

• Annual revenue of $437 million (2010)

• Over 2,200 worldwide customers – 190 in North America


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Commercial, Retail & Investment Banks

Technology & Web

Asset/Investment Managers, Fund Administration

Our clients include some of the world’s best-known firms


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Securities Valuations: When?

Nowadays people know the price of everything and the value of nothing

- Oscar Wilde

If I don’t get a price for this bond, you’ll get nothing!

- Irate client


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Securities valuations: When?

• To provide valuation for an instrument that is,− Listed on an exchange but does not trade regularly (illiquid)

− Not traded on exchange (OTC)

− Complex or structured

• To approximate a fair value within an orderly market

• As an interim value pending periodic reset/adjustment (as with private equity)

• To provide a range of valuations for a given security that might reflect a benchmark index, economic fundamentals, etc.

• As a reality check on other price sources - even for traded markets that might vary widely


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Securities Valuations: Why?

Liquidity is like oxygen…you only notice its absence, not its presence.


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Cash flow, probability, and time


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Reinvestment risk


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Credit risk and optionality risk


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Applications beyond spot


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Applications to swaps


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Securities valuations: Why?

• In the absence of liquid pricing, financial institutions need to know the value of holdings,

− To provide clients with the best information possible about their holdings− For regulatory compliance

However,

• Many instruments are rarely, if ever traded on organized markets− As of March 2011, only 54% of the nearly 7 million securities in SIX Telekurs’ database

are listed on an exchange− Asset classes can include,

− Fixed income− Structured securities− OTC derivatives− Private equity

• Unusual circumstances can interfere with regular valuation practices− Reference data and data on benchmark transactions were and completely unavailable

for auction rate securities in the wake of the market collapse in February 2008


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Securities valuations: Why?

• Regulatory drivers – FAS 157 and Tier 1, 2, 3 designations

• Internal audit and risk management requirements

• Client demand for arms-length, independent, third-party valuations


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Securities Valuations: What?

There is no right or wrong price – it depends on the intended usage.


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Securities valuations: What?

Evaluated pricing vs. fair value

• An evaluated price is derived using, − Market observations (inputs)

− Quantitative elements

• Fair value is an accounting concept (FAS 157, IAS 30) that defines fair value on three levels:

− Level 1: Unadjusted, quoted price from an active, orderly market

− Level 2: No observable quotes in active markets, values calculated using comparable instruments or inputs derived from/corroborated by observable market data

− Level 3: No observable quotes or inputs in active markets, values calculated using inputs based on assumptions

• Evaluated prices can be classified as fair value Level 2 or Level 3


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Securities Valuations: How?

Research is an ongoing process of discovery, and we seek to share our advancements on a continuous basis.


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Securities valuations: How?

• Maximize market-based observations and inputs

• Ability to reverse-engineer complex instruments

• Market and reference data are just as important as the models

• Verify, verify, verify…


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A common way to provide valuations for complex securities…

Is there a trade price available?

Yes

Report it

Is it a bid-side quote?

Matrix priceIs there a

trade price available of a comparable

issuer profile?

Is the coupon comparable to

Is the seasoning

comparable to the target?Is the final

maturity comparable to

the target?

No

distressed for an orderly

marketIs value

consistent with models

and methodology

Adjust for bid side of market

Are there market

observable inputs of

relevance to the trade?

Is there a trade price of a comparable

issue?

applied to a

quantitative

quantitativesolution be

approximate a fair value and with the use

of any market observable



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And the SIX Telekurs way…

Is there a trade price available?

Yes

Is it a distressed

sale?

Is it a bid-side quote?

Is there a recent trade

price available?

Is there a trade price

available of a comparable

issuer profile?

Is the coupon comparable to

the target?Is the

seasoningcomparable to

the target?

Are the financials

comparable to the target?

Is the industryprofile


Is the geography


Is the competitive landscape


Is the regulatory

environment comparable to

the target?

Is the final maturity


No

Adjust distressed for

an orderly market

Is value consistent

with models and

methodology

Adjust for bid side of market

Are there market

observable inputs of

relevance to the trade?

Is there a trade price of a comparable

issue?

Can those inputs be

applied to a model to derive a

quantitative solution?

Can a quantitativesolution be created to

approximate a fair value and with the use

of any market observable

data?



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Methodology

• Sourcing primary data wherever that may be found

• Applying quantitative methods where necessary and being transparent

• Having a process around mapping techniques when they are used

• Providing assumptive data when and where practicable

• Developing a framework and sticking to it


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Securities Valuations: Who?

When you have confidence, you can have a lot of fun. And when you have fun, you can do amazing things.

- Joe Namath


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Securities valuations: Who?

Use a pricing source that is,• Independent• Consistent in process, using commonly accepted methods where plausible and

giving maximum consideration of market inputs when possible• Experienced in both theory and practice• Transparent with regard to methodology and inputs• Flexible• Able to anticipate requirements and proactively respond• Committed to continual process improvement• Responsive to valuations challenges


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And I should care because...?

• When?− Whenever a security is thinly traded, illiquid or complex – or to validate another pricing

source.

• Why?− Customers and regulators demand current, accurate valuations for a wide variety of

reasons – P&L, capital adequacy, risk management and more.

• What? − An evaluated pricing service that can easily handle plain vanilla securities but is also

adaptable and extensible to encompass even highly complex structures

• How?− Thoughtful consideration of any relevant market-based inputs applied within an

appropriate pricing framework

• Who?− SIX Telekurs, naturally!


Thank you for your time!

For more information,

• Visit www.six-telekurs.com

• Email [email protected]

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