Ratings

The proceeds from a market value transaction are used to acquire a number of different asset types that are held by the issuer, including:

• U.S. government securities,
• MBS,
• Corporate bonds,
• Bank loans,
• Equity securities,
• Structured finance securities,
• Short-term money market instruments,
• Loans to affiliates supported by LOCs,
• Municipal bonds, and
• Foreign securities.

In a market value transaction, Standard & Poor's accepts as eligible assets those securities for which a well-developed secondary market exists. If Standard & Poor's does not have a rating outstanding on an eligible asset, the asset is notched one full category below the equivalent Standard & Poor's rating for investment-grade assets. Speculative-grade assets not rated by Standard & Poor's can be notched two full categories below the equivalent Standard & Poor's rating or carried as a not-rated asset (NR). Notching is allowed only on public ratings.

In addition, assets must be maintained to cover the liquidation preference and dividends for preferred stock, principal and interest for debt issues, and various other expenses. The level at which these assets must be maintained depends on several factors, including:

• The type of security,
• The frequency of the securities' valuation,
• The time allowed to cure a deficiency of the required asset level from the date of a failed valuation,
• The time needed to liquidate the collateral and redeem the rated obligations if a failed valuation remains uncured, and
• The desired rating on the issue.

In addition to the quality and value of the assets held in a portfolio, Standard & Poor's requires other parameters essential for maintaining a diversified portfolio, which are listed as portfolio limits in the transaction's legal documents.

Ineligible assets, securities for which advance rates are not established or that exceed the concentration limits beyond 10% of total portfolio value (such as by issuer, industry, or sector), in addition to other factors that prevent it from being considered an eligible asset, are eliminated from the pool of assets to determine the MAC. Portfolio holdings that exceed the transaction's percentage limits can be included as eligible assets. The advance rate will be reduced by two percentage points for each percentage point in excess of the limit. Portfolio holdings in excess of 10% of the total portfolio value are considered ineligible assets. In earlier market value transactions, Standard & Poor's allowed only settlement date accounting (once a trade settles, the manager discounts the assets as cash). Receivables from a trade due within five business days are treated the same as cash; the advance rate is 100%. If the receivables from the trade are not due within five days, those receivables are discounted at the assets' given advance rate.

Standard & Poor's determines the market value of eligible assets according to the following order of priority:

• A pricing service. The pricing service must have been reviewed by Standard & Poor's before the issuer can add it to a list of approved pricing services;
• Dealer bids. If a pricing service is not used, or the pricing service is not able to provide a price, the market value of an asset can be determined by the average of three dealer bid prices. If three bid prices are not available, market value is determined using the lower of two dealer bid prices. The bid prices must be from dealers making a market in such security. For U.S. securities, the dealers must be members of the National Association of Securities Dealers Inc. For non-U.S. securities, the dealers must be members of a dealer panel. At least one of the bids must be in writing. Standard & Poor's accepts as dealers companies that are registered, fully regulated, and whose main line of business is the trading of securities on an open market; or
• Closing market prices from a stock exchange.

Up to 5% of the portfolio's market value may be determined by a method other than those outlined above, including self-marking or marks from the originator of the asset if other independent sources are not available. The discounted value of each asset and then the sum of the discounted assets are calculated.

The issuer's liabilities are deducted from the total of the discounted assets. Those liabilities include current and projected operating expenses, possible tax liabilities, payables, and any other indebtedness that the issuer may incur over the exposure period. Expenses are typically projected out to the marked-to-market frequency of illiquid assets, which usually consist of private equity. As private equity is typically marked–to-market quarterly, Standard & Poor's requires expenses to be projected to at least 90 days.

Dividends or interest are also deducted from the total discounted assets. Coverage for dividends or interest must be equal to the current amount due, which is the amount that will accrue from the valuation date to the end of the current dividend or interest period. The current amount is the product of the number of days remaining in the current period; the current dividend or interest rate; and the face value of the preferred stock, notes, or bonds. Assets are marked-to-market to account for price movements, but it is also necessary to account for the potential increases in dividend or interest rates during the exposure period because an auction or remarketing of the preferred shares could occur or the interest period could reset.

The total amount of liabilities is subtracted from the total discounted value of Standard & Poor's eligible assets (see Calculating The MAC for an example of this calculation for a market value preferred stock transaction). The MAC test is met if, after deducting liabilities and dividend or interest coverage, the remaining discounted assets are at least equal to the total liabilities outstanding.

If any coverage is not met on any valuation date, the issuer has a short period of time to cure this asset deficiency by changing the asset mix in the portfolio until the MAC test is met. If the MAC test is still not met on the cure date, depending on the type of transaction and the terms of the structure, a partial redemption is triggered until coverage levels are returned or a mandatory redemption will occur.