Integrity of the benchmark price for price testing of US municipal bonds

Abstract

External financial market data institutions (vendors) may provide different prices for the same US municipal bond due to differences among market participants in perception about its market value. The valuation control function will include only selected vendors in the calculation of the consensus price, which enters as a benchmark price in the price testing process. Selection of vendors is largely driven by the valuation control function’s consideration of their valuation capabilities and their market coverage. Empirical analysis in this paper shows that additional pricing service may bring additional pricing information to the final consensus price, which may significantly alter the benchmark price and final price testing results. The approach described in this paper is in interest of any financial institution with US municipal bonds in the trading portfolio. Contribution of this paper to valuation of US municipal bonds is high because remaining literature does not explain alternative approach to measurement of additional pricing information in the benchmark price.