The Valuation Showdown: Mark-to-Market vs Amortized Cost

Apr 21, 2017


Randy Palomba
Investment advisors, like Public Trust Advisors, LLC (Public Trust), may select different methods of determining the value of assets held within local government investment pool (LGIP) portfolios for reporting purposes. The two most common methods used to report on the assets of the portfolio are mark-to-market and amortized cost… So which is better? While both methods are acceptable, it is our opinion that mark-to-market (Fair Market Value) provides a higher level of transparency than amortized cost.

Why Mark-to-Market?

Public Trust has chosen to use the mark-to-market methodology for LGIPs managed. This methodology involves obtaining prices for securities in the portfolio on a frequent or daily basis. In the case of the Public Trust managed LGIPs, the portfolios are priced every business day (note: mark-to-market can be performed multiple times a day if deemed necessary by the fund manager). The prices are based on what a willing buyer would pay to a willing seller for the individual positions in the portfolio. Public Trust, in its role as administrator, believes that this information is exceptionally useful to both the investor and investment manager. When completed routinely and while using prices from reliable sources, readers of the financial statements gain an understanding of the liquidity and credit quality of the positions in the portfolio. Mark-to-market reflects current economic and monetary cycles that may have a direct impact on the underlying values of the portfolio. Changes in the rating or perceived credit quality of the insurer will also be immediately reflected in the value of the securities held in the portfolio.
Alternatively, LGIPs employing the amortized cost method adjust the value of the securities in the portfolio daily by a predetermined amount from the purchase date to the maturity date. This method produces very predictable asset valuations regardless of current economic or monetary cycles. The predetermined value may or may not reflect the actual price achievable in the open market. As a result, many LGIP portfolios that utilize the amortized cost method will still use mark-to-market periodically to more accurately reflect the actual prices. 

Mark-to-Market and Transparency

While amortized cost and mark-to-market can approximate one another during periods of stability in the financial markets, the results can be much different during times of stress such as the financial crisis of 2008 for example. Most LGIPs maintain sufficient cash to meet investors’ request for funds, however uncertain cash flows can happen and are more likely to develop during times of economic uncertainty. At any given time, the investment manager may need to sell individual securities in the open market.
Mark-to-market methodology allows both the participant in the LGIP and the investment advisor to determine the possible gain or loss to be realized from selling the securities in the portfolio. We believe that the mark-to-market methodology portrays a much better understanding of the structure and quality of the portfolio in financial statements. At Public Trust, we believe that transparency is a critical component of the investment of all public funds, and mark-to-market is essential to that transparency. 
The information presented should not be used in making any investment decisions and is not a recommendation to buy, sell, implement or change any securities or investment strategy, function or process. Any financial and/or investment decision should be made only after considerable research, consideration and involvement with an experienced professional engaged for the specific purpose. All comments and discussion presented are purely based on opinion and assumptions, not fact, and these assumptions may or may not be correct based on foreseen and unforeseen events.

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