NICSA Webinar | Swing Pricing 101

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SWING PRICING 101January 27, 2016

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Moderator:

Rheeta WisePresident, MFS Service Center, Inc.

Panelists:

Elisa O’KeefeVice President, Fund Administration, State Street Global Services

Geoff RadcliffeManaging Director of BlackRock (Luxembourg) S.A. and ALFI Board Member

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SEC Proposes New Liquidity Risk Management Regulation

• The Proposal would:(1)

– Require funds to establish liquidity risk management programs under new Rule 22e-4;– Permit, but not require, funds (except for money market funds, UITs and ETFs) to use “swing

pricing” in pricing their shares, under proposed amendments to Rule 22c-1; and– Require funds to provide additional disclosures about redemptions, swing pricing (if

applicable), and liquidity on Form N-1A, proposed Form N-PORT, and proposed Form NCEN.• The SEC is proposing to allow Funds to voluntarily employ swing pricing as an anti-dilution tool. • The guidance set forth around the usage of a swing price closely aligns with the framework that is

used in the Luxembourg market. • If a Fund so chooses to use a swing price, the swing factor and level of subscriptions and

redemptions that would trigger the application of a swing factor to the NAV would need to be documented in a board approved policy and reviewed at least annually by the Fund’s board.

On September 22, 2015 the SEC proposed new regulations specific to liquidity risk management.

(1) Open-End Fund Liquidity Risk Management Programs; Swing Pricing; Re-Opening of Comment Period for InvestmentCompany Reporting Modernization Release, SEC Release No. IC-31835 (the “Proposal” or the “Release”), available atwww.sec.gov/rules/proposed/2015/33-9922.pdf.

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Definition of Swing Pricing

The practice being proposed in the US borrows from the framework outlined by the Association of the Luxembourg Fund Industry (“ALFI”).(2)

Swing Pricing

Is an anti-dilution technique designed to reduce the impact of

subscriptions and redemptions on “non-

trading”/ existing investors in a fund.

Is the process of reflecting in a fund’s

NAV the costs associated with

shareholders’ trading activity in order to pass

those costs on to the purchasing and

redeeming shareholders.

Involves a step in the valuation process, whereby a fund

measures daily net purchase or redemption activity and

adjusts (or “swings”) the NAV upward or downward if a pre-determined threshold is met. * If fund is experiencing net inflows, the NAV is adjusted

upwards. * If the fund is experiencing

net outflows, the NAV is adjusted downwards.

(2) See “Swing Pricing,” Association of the Luxembourg Fund Industry (2015), available athttp://www.alfi.lu/sites/alfi.lu/files/ALFI-Swing-Pricing-Survey-2015-FINAL_0.pdf

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http://www.alfi.lu/sites/alfi.lu/files/ALFI-Swing-Pricing-Survey-2015-FINAL_0.pdf

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Methodology

According to ALFI, important considerations in establishing a partial swing pricing methodology include:(3)

1. Establishing a pre-determined net capital activity threshold (the “swing threshold”). The fund will adjust its NAV only when it exceeds the threshold.

• Determining how high to set the swing threshold is the responsibility of the Fund’s Board.

• Slide 6 will provide further details around the swing threshold and considerations by the SEC.

2. Determining the adjustment factor (the “swing factor”): an amount by which the NAV is adjusted, normally expressed as a percentage of the NAV.

• Traditionally in the European market, the Fund’s Board and/or their designated “swing pricing committee” calculates and monitors the swing factor.

• Slide 7 will provide further details around the swing factor and considerations for calculating it.


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Swing Threshold

The pre-determined amount of net purchases or redemptions of a fund, which triggers swing pricing, expressed as a percentage of the fund’s NAV.

Factors to be considered include:(4) The size, frequency, and volatility of historical net purchases or net redemptions of fund shares during normal and stressed periods

The fund’s investment strategy and the liquidity of the fund’s portfolio assetsThe fund’s holdings of cash and cash equivalents, as well as borrowing arrangements and other funding sourcesThe costs associated with transactions in the markets in which the fund investsThe proposed SEC amendment does not stipulate a minimum threshold amount.


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Swing Factor

The amount, expressed as a percentage of the fund’s NAV, by which the fund adjusts its NAV per share when net purchases or redemptions exceed the swing threshold. • The “swing factor” would be the amount, expressed as factors should include:(5)

– any near-term costs expected to be incurred by the fund as a result of net purchases or net redemptions that occur on the day the swing factor is used (including any market impact costs, spread costs, and transaction fees and charges arising from asset purchases or asset sales); and

– the value of assets purchased or sold by the fund as a result of net purchases or net redemptions that occur on the day the swing factor is used, if that information would not be reflected in the current NAV of the fund computed that day.

• A fund could impose an upper limit on the swing factor, effectively capping the amount by which the fund could adjust its NAV on a given day.(5)

• Determinations of the swing factor must be reasonably segregated from the fund’s portfolio management function.(5)


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Governance

Approval and Administration• The fund’s board, including a majority of the independent directors, would be required to

approve the fund’s swing pricing policies and procedures, along with any material changes to them.(6)

• The fund’s board also would designate the fund’s investment adviser or officers to be responsible for administering the swing pricing policies and procedures;(6) commonly referred to as the swing pricing committee.

– 70% of asset managers in Europe operate a single committee that is responsible for the governance of swing pricing.(7)

• Swing Factor Review:– The SEC has not provided any guidance on the frequency of review of the swing factor.

However, in the recent ALFI 2015 survey, almost half (47%) of asset managers continue to review swing factors on a quarterly basis; with 20% who review factors only monthly . (7)

• Swing Threshold Review:– The proposed amendments would require funds board to review at least annually their

swing thresholds.(6)

(6) Open-End Fund Liquidity Risk Management Programs; Swing Pricing; Re-Opening of Comment Period for InvestmentCompany Reporting Modernization Release, SEC Release No. IC-31835 (the “Proposal” or the “Release”), available atwww.sec.gov/rules/proposed/2015/33-9922.pdf


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Additional Considerations to Implement Swing Pricing

Transfer Agents/ Intermediaries

• The Fund needs to confirm if their Transfer Agent and/or Intermediaries will be able to provide net capital activity on a same day / T+0 basis.

• The SEC recognizes that funds would need net fund flow information prior to their deadlines for striking their NAVs, so that they could make any necessary NAV adjustments. (8)

• Under the proposed amendments, the person determining whether the fund’s level of net purchases or net redemptions has exceeded the fund’s swing threshold may make such determination on the basis of “information obtained after reasonable inquiry”.(8)

• To this end, the SEC suggests that “a fund may wish to arrange for interim feeds of flows from its transfer agent or distributor in order to reasonably estimate its daily net flows for swing pricing purposes.(8)


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Reporting and Recordkeeping

The proposed SEC Liquidity Rules would require certain disclosures of swing pricing in fund documentation, as follows:

Prospectus Disclosure • Include a statement confirming the fund has the ability to swing its price. • Provide a brief disclosure of the swing price mechanism; however they are not required to

disclose the swing threshold or swing factors. • Identify a list of funds that are included and/or excluded from swing pricing.

Financial Reporting • To the extent the NAV is swung on a semi-annual or year end, the financial statements are to reflect the swung NAV with a high level disclosure in the Notes to the Financial Statements as to what swing pricing is and the impact.

Performance Reporting • Calculations of NAV-based performance fees, and financial statements, the SEC indicates that funds should use NAVs as adjusted pursuant to their swing pricing policies and procedures.(9)

Recordkeeping • The SEC is proposing amendments to Rule 31a-2 under the Investment Company Act of 1940 to require a fund that chooses to use swing pricing to create and maintain a record of support for each computation of an adjustment to the NAV of the fund’s shares based on the fund’s swing pricing policies and procedures.(9)


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Countries where Price Swinging is used in mutual funds

Countries• Australia• Cayman• Finland• France (2014)• Hong Kong• Ireland • Jersey, Channel Islands• Luxembourg (c.1996)• Norway (new)• Switzerland (2007)• UK (2002)

Luxembourg

• Swing Pricing Guidelines 2015• Swing Pricing Survey 2015

ALFI.LUhttp://www.alfi.lu/sites/alfi.lu/files/Swing-Pricing-guidelines-final.pdf


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http://www.alfi.lu/sites/alfi.lu/files/Swing-Pricing-guidelines-final.pdf







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ALFI Swing Pricing Survey 2015 participation rate and application

2011 2015

13 3019

4530

65

Survey respondents

Application of swing pricingNo. of respondentsTarget audience

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ALFI Swing Pricing Survey 2015 asset manager breakdown

• Strong bias by asset managers of US; UK; Swiss, and French origin to apply swing pricing. • Managers of Belgian, German and Italian origin tend not to apply swing pricing. • Of those asset managers that did not apply swing pricing, seven confirmed they were currently

considering implementing it, while four stated that they had included the permission within the prospectus, even though they were not actively operating it.

• 29/30 managers use Partial Swinging. 1/30 uses Full Swinging.

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Dilution through Timing Dilution through Value

• The security price in the nav will not be the same price achieved when portfolio management buy or sell the underlying securities

• bid/ offer spread, market impact, taxes, transactions charges, commissions

• Can portfolio management invest into the markets and achieve the same security values that are given to a subscriber/ redeemer ?

• Are net cash flows known prior to the valuation point ?

• Are the underlying security markets open? liquid?

Dilution occurs where cash received/ paid does not equal the cost of investment/ disinvestment

Dilution impacts the existing / long term investors in a fund and fund performance

Price Swinging looks to protect against dilution through Value

Swing Pricing is all about Protecting Fund Shareholders against Dilution

ALFI Swing Pricing Guidelines 2015Dilution

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Estimated Net Cash Flows

from Capital Stock Activity required prior to or within

an hour of the fund valuation

point

Net SubscriptionsSwing fund to

offer

Net Redemptions

Swing fund to bid

Full SwingingSwing every day

there is a net flow

Partial SwingingSwing on days

when net flows exceed a

threshold

Swing Factor

NAV Adjusted by a pre-approved Swing Factor

Only one Official NAV

This adjusted NAV is the official and only NAV issued and which is also

used for subs/ reds.

How does it work?

TransferAgent

Partial swinging is the most common form of swinging in operation

Fund Accountant

Fund Accountant

Fund Accountant

Fund Accountant &

TransferAgent

Ant-dilution protection included in the NAV

Outsourced daily activities

Swing is at fund level

Distributors

Governance

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• The impact on fund performance is directly linked to the number of swings and the size of the swing factor.

• If a fund has a quiet period with limited subscription/ redemption flows, or inflows and outflows that largely match, and/or where the swing factor is relatively low then application of the swing process may not be much of an impact on fund performance.

• Conversely if a fund has significant subscriptions/ redemption flows over a period and has a relatively high swing factor then there will be a noticeable impact on fund performance.

• A BlackRock study in 2011 over a 12 month period quantified the following performance enhancements. Subsequent studies support the findings.

Impact on Fund Performance

Number of swings during the period

Base ccy price at beginning of period

Base ccy price 30 June 2011

Class Base performance

Performance without swinging

Performance benefit

BGF Asia Tiger Bond Fund 72 27.25 29.19 7.11% 4.59% 2.52%BGF Global High Yield Bond Fund 60 14.59 16.79 14.24% 12.11% 2.13%BGF US Dollar High Yield Bond Fund 42 19.69 22.64 14.94% 14.25% 0.69%BGF World Technology Fund 12 10.39 13.33 28.34% 27.89% 0.45%

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ALFI Swing Pricing Guidelines 2015Key Areas

Determining the Swing Threshold

Determining the Swing

Factor

Governance Transparency

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QUESTIONS?

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NICSA Webinar | Swing Pricing 101

Economy & Finance

Transcript of NICSA Webinar | Swing Pricing 101