Discovering Relative Value Using Custom Indexes
Daniel J. Garrett, CFA Vice President Investortools, Inc.
The scope of this chapter is the database of municipal bonds that comprise the Standard and Poor’s/Investortools Municipal Bond Indexes. Competitive advantages can be discovered by comparing various bond groups, individual bonds, or indexes, using price, yield and spread history and comparative value of index constituents. Understanding how these relative values have compared in the past, considering past and current trends, and analyzing how these might reveal future price trends, allow a manager or analyst to improve the quality of decisions and ultimately total return performance. compared to uninformed peers who lack this resource.
Most managers of bond portfolios have a feel for pricing patterns among and between groups of alternative bonds. Some of this feel is from empirical evidence of total return comparative breakdowns, but there also is cumulative, intuitive knowledge of historical trading patterns. Spread changes due to credit events are inferred from prices moves. Portfolio managers understand, for example, when an issuer’s specific project warrants the spread differences compared to similarly rated or structured deals. Some general conclusions can also be made about certain states’ relative value due to supply/demand imbalances or state tax laws. Generalizations become more specific by observing outperforming sectors or credit ...