The process of valuing the securities in a mutual fund's portfolio - often an imprecise task - may require more work from now on for some fund companies and fund directors.
Funds must use fair value rather than market value to assign prices to the securities they own when financial markets do not open for an entire day and no other market prices are available, the SEC said in new guidelines it issued last week. And in the event that the market closing affects different companies listed on the same exchange differently - as in the case of an earthquake - funds and fund board members must try to value securities based on the particular circumstances of individual companies and not just the factors affecting the market as a whole, the SEC said.
In addition, closed-end funds, which unlike open-end funds, are not required to redeem their shares at net asset value, nevertheless risk SEC lawsuits if they do not value the securities in their portfolios based on a reasonable estimate of what the securities will generate if sold, according to the SEC. For example, closed-end fixed-income funds cannot value bonds using the bonds' value at maturity if the funds could not receive that value in a current sale, the SEC said.
The SEC's pronouncements are part of a letter dated Dec. 8 to Craig Tyle, general counsel for the Investment Company Institute, from Douglas Scheidt, chief counsel for the SEC's division of investment management. Paul Roye, director of the division of investment management, urged lawyers and compliance executives to review the letter in a speech at the ICI's Securities Law Developments Conference in Washington Dec. 9.
The SEC made a copy of the text of Roye's speech available to the press on Dec. 9. The conference was not open to the press.
The Scheidt letter - the SEC's first broad-based pronouncement on fund valuation in more than 25 years - describes the role fund boards of directors should play in valuing securities and identifies factors funds should consider when establishing fair value for the securities they own.
The guidelines requiring that funds use fair value when markets close and that closed-end funds must mark fixed-income securities to market seem likely to require changes in the industry since at least some companies have not followed those policies in the past.
In addition to those requirements, the SEC outlined several factors that funds should consider when setting fair value including; checking the value of securities traded in other markets that may help identify fair value, reviewing news events that could affect pricing, obtaining information about trading volume and monitoring government actions that may affect markets.
The valuation efforts must be done with oversight from fund directors, Scheidt said.
