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The Securities and Exchange Commission (SEC) adopted rule 2a-5
under the Investment Company Act of 1940, which went into effect on
March 8, 2021, with a compliance date of September 8, 2022. The
rule provides guidance to registered investment advisors (RIA)<span/> and
business development companies (BDC) to determine fair value of
fund investments in good faith. The rule establishes requirements
for fund boards' obligation to determine the fair value in good
faith. As part of the rule, the fund's board may designate a
"valuation designee", which could be the fund's investment adviser,
for some or all of the fund's investments, as long as the valuation
designee is subject to the board's oversight. In conjunction with
Rule 2a-5, the committee also adopted rule 31a-4, which requires
funds or their advisers to maintain appropriate documentation to
support fair value determinations.
Below are the key considerations and requirements of the
rule:
Periodically assess and manage valuation
risks
The rule requires that funds assess periodically any material
risks associated with determining the fair value of the fund's
investments, including material conflicts of interest, and managing
those identified valuation risks. Depending on the type of fund,
the rule provides flexibility to determine whether certain sources
and types of valuation risk should be weighed more heavily than
others.
IHS Markit's pricing services can help clients with complying
with these requirements. The pricing service incorporates
established asset specific industry practices in determining
valuations. Bid, mid and offer prices and additional analytics that
are evaluated from relevant market sources can help alleviate
valuation risks. Additionally, the pricing and reference data
service provides detailed terms and conditions that can help funds
identify characteristics of individual investments. Global teams
utilize nimble technology with robust business continuity plans,
which effectively mean that clients can expect continuous operation
with minimal disruption.
Establish and Apply Fair Value
Methodologies
The rule requires that the board or the valuation designee
establish and apply fair value methodologies by:
(a) selecting and applying appropriate fair value
methodologies,
(b) periodically reviewing the appropriateness and accuracy of the
methodologies selected and making any necessary changes or
adjustments, and
(c) monitor for circumstances that may necessitate the use of fair
value.
IHS Markit's team of experts and evaluation staff are highly
specialized in the asset classes that they evaluate. Pricing
platforms for all asset classes are SOC 1 certified and inputs and
thresholds are configurable to adapt to changing market conditions.
With the help of these pricing platforms and streaming data for
evaluating specific securities, evaluators can capture market
movements in real-time. Most liquid securities are priced multiple
times each day as new pricing information becomes available.
Test Fair Value Methodologies for Appropriateness and
Accuracy
The rule will require the testing of the appropriateness and
accuracy of the methodologies used to calculate fair value. This
requirement is designed to help ensure that the selected fair value
methodologies are appropriate and that adjustments to the
methodologies are made where necessary. The rule provides
flexibility to boards or valuation designees to:
(a) identify the testing methods to be used,
(b) determine the minimum frequency of testing depending on the
circumstances of each fund, and
(c) use new, appropriate testing methods when applicable.
IHS Markit has several internal processes and checks in place to
ensure that the quality of prices is validated before being
distributed to customers. Our valuations are periodically compared
to observed market trades to ensure that our methodologies are
current for various market conditions. These results are documented
and shared with our customers. Transparency metrics and input data
on price files can help clients determine the appropriateness of
sources used to evaluate securities.
Pricing Services
The rule will provide that determining fair value in good faith
requires the oversight and evaluation of pricing services. Boards
or valuation designees of funds that use pricing services will be
required to establish a process for approving, monitoring, and
evaluating each pricing service provider. The rule also requires
that a process for initiating price challenges be established.
Before deciding to use a pricing service, the fund's board or
valuation designee is expected to consider factors such as
valuation methods used, price challenge processes, and inputs used
for pricing.
IHS Markit's evaluation processes are documented in frequently
updated and comprehensive methodology documents. Customers may
request due diligence meetings to understand our processes in
detail and have any questions addressed by our team of experts. IHS
Markit also has a price challenge process that clients can utilize.
Customers can expect timely and descriptive responses after our
evaluation staff reviews every single challenge. If clients wish to
receive additional details about certain securities, deep dives can
be performed on the securities in question. Frequently updated
transparency metrics on price files provide details about inputs
utilized for pricing.
Rule 31a-4
Rule 31a-4 will require funds or their advisers to maintain
appropriate documentation to support fair value determinations.
Records will be required to be maintained for six years, with the
first two in an easily accessible place. Reports generated by
valuation designees must include a specified list of the
investments or investment types for which the valuation designee
has been designated.
As part of our evaluated bond service, IHS Markit provides an
array of reports for clients that can help them comply with the
reporting requirement. Learn more about our
service.
Posted 13 July 2021 by Krishna Shetty, Executive Director, Head of Americas Corporate and Sovereign Bonds Business Development, S&P Global Market Intelligence
IHS Markit provides industry-leading data, software and technology platforms and managed services to tackle some of the most difficult challenges in financial markets. We help our customers better understand complicated markets, reduce risk, operate more efficiently and comply with financial regulation.
This article was published by S&P Global Market Intelligence and not by S&P Global Ratings, which is a separately managed division of S&P Global.
