Is The Pricing Right?

Making sure you know the sources of your pricing data seems like an obvious no-brainer, but I've been thinking about this topic this week and finding that data users are currently thinking about it as well, and working on how to get transparency on sourcing of prices.

Structured products and mortgages and their opacity have created another challenge for getting transparency on pricing sources, a valuations executive at one of the largest data providers said during our North American Financial Information Summit (NAFIS) at the beginning of this summer. The firms themselves need to distribute pricing data into multiple lines of business and are usually obtaining it from multiple sources. Documenting their data methodology is therefore important, but so is vetting data providers and the relationships being established with those providers, according to a pricing manager speaking at the same event.

Above all, firms want pricing handled in a uniform and consistent fashion, said a fixed-income business executive at another firm. Firms are also turning to data quality assessments, as performed by providers such as Markit, to determine the accuracy of pricing coming from major providers, as Daniel Johnson, director of valuations at Lacrosse Fund Services, observed to me more recently. The data quality assessment becomes especially important if you have only one source of prices.

That source certainly shouldn't be a fund manager, Johnson cautions. "Any investor who's over-reliant on prices coming from a manager needs to be reminded of people like Bernie Madoff," he says. "Investor money should go toward independent pricing managers. If you're basing your pricing on the manager, you should expect to pay a higher risk premium." Johnson does see more investors pushing managers to establish and follow best practices in pricing over the next 18 months.

Still, firms that want to have three, four or multiple sources of pricing data available to them are concerned about costs, as that pricing manager speaking at NAFIS related. "It's a constant battle between the balance sheet and the transparency," said Paul Sharkey, a vice president at Northern Trust.

With that in mind, the obvious conclusion, at least from this perspective, is there may be costs to cover having multiple pricing sources and doing due diligence on each of them, but those are bound to be a lot less than the cost of pricing errors that get discovered too late, or a wider systemic failure in pricing accuracy. It's always better to spend a bit more up front and save a lot more as a result later on, whatever the endeavor.