Interactive Data Corp. and Pluris Valuation Advisors LLC have teamed up to provide what they contend will be first-of-its-kind daily pricing data for illiquid student loan and other municipal auction-rate securities.
The pricing data will allow institutional investors to mark-to-market their illiquid ARS portfolios on a daily basis, officials from the two companies said this week.
Since the auction-rate market froze in February 2008, ARS prices have been available only monthly and quarterly because of infrequent trades. Institutional investors, including public companies and hedge funds that hold more than $10 million of ARS, have not been able to sell them or get broker-dealers to buy them back.
Federal and state regulators' ARS settlements with broker-dealers generally only required them to buy back the securities from retail investors that held less than $10 million of them.
But under this new pricing service, Interactive Data, Pluris, and its sister company, SecondMarket Inc., will use proprietary data and pricing algorithms to compare clients' ARS with the those securities that have traded in the secondary market to come up with daily prices for the illiquid securities.
"We look for comparability between the securities that we're pricing and the securities that have traded," said Pluris president Espen Robak. "If we only gave pricing information for the actual trades, then it wouldn't be enough to provide a good enough sampling."
The new data will not help companies resolve the issue of penalty interest rates ARS holders receive from failed auctions. In a Sept. 1 letter to the Municipal Securities Rulemaking Board, Allstate Investments LLC, which holds $2 billion of ARS, asked the board to require broker-dealers to disclose how they calculate interest rates for the securities when the auctions fail.
ARS holders "have not been able to determine if the interest rate that the auction agent or the broker-dealer is stating is, in fact, the correctly calculated rate," the Northbrook, Ill., company said.
Market participants agree that the ARS market is dead and that issuers are stuck with penalty interest rates for failed auctions. But most of the penalty interest rates are minimal because they are based on a floating interest rate: usually the London Interbank Offered Rate or the Securities Industry and Financial Markets Association swap index, which are at historically low levels.
"There's no uniformity as to where all the auction rates are," said Kevin O'Connor, head of the auction-rate desk at SecondMarket. He said SecondMarket has tried to simplify the maximum interest-rate language for its clients.
O'Connor said the municipal ARS market has shrunk from $150 billion before the auctions collapsed to about $50 billion today. For muni ARS, most of the interest rate problems "have gone away," he said, and the total ARS market has been cut almost in half.
However, student loan ARS have decreased much less - from $80 billion to about $75 billion. Student loan ARS issuers have little incentive to refinance. With the low interest rates, issuers are paying less than 1% even with the penalty rate, O'Connor said. If issuers refinanced to fixed rate, they could pay as much as 5%, he said, adding that they are unable to refinance into another variable-rate form because of the high price charged by liquidity providers and limited credit enhancement.