PORTFOLIO ANALYSIS ASSIGNMENT

Portfolio Analysis Assignment

Portfolio Analysis Assignment

Introduction

The appropriate valuation of portfolio securities is a cornerstone of the asset management industry. It is critical to the accurate calculation of a mutual fund's net asset value (“NAV”) or investor unit value. Without it, long term shareholders could suffer the adverse consequences of dilution. If a fund's assets are undervalued, purchasing shareholders will receive more shares than they are entitled to on entering the fund, diluting the interests of the other fund investors. On the other hand, if a fund's assets are overvalued, redeeming shareholders will take away more than they should receive, thereby diminishing the fund's asset base and diluting the interests of the remaining investors.

The Financial Accounting Standards Board Statement No. 107: “Disclosures about Fair Value of Financial Instruments”, defines “fair value” as the amount at which the investment could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale. Although a general statement, it provides portfolio managers a benchmark for properly valuing portfolio securities. Value can be determined each time an arms-length transaction occurs, so funds should develop well-thought-out and consistent policies and procedures to use when determining securities

Portfolio Analysis

The adoption of consistent valuation procedures or industry practices is hampered by a lack of specific accounting and regulatory guidance around determining fair value. Securities traded across exchanges and readily within a broker network are generally easier to value as there is more evidence of the “current transaction” value described in accounting literature. Due to the rising number of thinly traded or “hard to price” securities, and the constantly evolving securities markets, securities falling outside of market and broker-traded networks have less empirical evidence of current transaction value and therefore require the development of appropriate pricing procedures to be applied. As a result, the focus becomes principle-based rather than rule-based, since valuation is considered more of an art than a science.

Security valuation methodologies vary across security types. Although a considerable number of advisers use similar pricing policies and procedures to value assets held in mutual funds, separate accounts, and other products, others do not. There are no requirements for advisers to value the same holdings in mutual funds, separate accounts, and other products in the same manner and there is no requirement that policies and procedures even be consistent across product types. However, to the extent there are different methodologies used for the same security held by different products, the application of different policies and procedures could become an issue if challenges are made by investors in one product based on the value ascribed to the same security in a different product. The potential problem becomes very sensitive when fees are based on assets under management and the periodic performance of those assets. Any differences in methodologies would need to be supported by the adviser as being created by the differences in circumstances for the individual products.

Fair values are neither as predictable nor as standardized as closing prices obtained from a liquid market with a ...