Swing Pricing - BlackRock International

December 2011
FOR PROFESSIONAL INVESTORS ONLY
Swing Pricing
The dilution effects of trading
activity
Finding the best way of protecting mutual fund investors from the
dilution impact of trading costs has emerged as a key industry
challenge, particularly as investment time horizons shorten. This
paper discusses how our UCITS compliant, single-priced and
Luxembourg-based BlackRock Global Funds (BGF) and BlackRock
Strategic Funds (BSF) address the issue, particularly with regard to
swing pricing.
How trading activity can dilute performance
A characteristic of trading activity is that the resulting costs dilute
the value of existing shareholders’ interests in a mutual fund,
especially when such a fund is valued each day using a single NAV
per share. This happens because the single price at which investors
buy and sell the fund’s shares only reflects the value of its net assets
using the mid– or last-traded price. It does not take into account
dealing costs and spreads that arise when the portfolio manager
trades as a result of flows in or out of the fund. The ultimate
downside to this is that without swinging, the charges incurred fall
not on the client who has just traded, but on all existing investors
in the fund (this is known as “dilution”). The costs associated with a
shareholder who is trading that day will impact the value of the fund
and therefore all shareholders suffer to some extent.
Regulations permit these costs to be met directly from the fund’s
assets (which may affect its performance) or to be recovered
from investors in a variety of ways on the purchase or redemption
of shares in the fund. In the interests of our ongoing investors,
BlackRock adopts what’s known as “swing pricing”.
Protecting investors’ longer-term interests
Swing pricing can protect ongoing investors by countering the dilution
effect of investor activity. It is not an additional service charge; it is
a mechanism by which investors buying or selling a fund at a volume
that could materially impact ongoing investors bear the trading costs
incurred, rather than other shareholders bearing them on their behalf.
There are two main methods of swing pricing. The first, known
as “full” swinging, means that a fund’s Net Asset Value (NAV) is
adjusted each time there is any net capital activity (i.e. flows in or
out), with its direction being determined by the net flows of the day.
The second, known as “partial”, means the process is triggered,
and the NAV swung, only when the net capital activity exceeds a
predefined threshold known as the “swing threshold”.
BlackRock’s approach
In line with many of its peers in the industry, BlackRock has
adopted the “partial swing” method for its retail ranges. Therefore,
if the net trading in one of the Luxemburg-based funds does not
meet the swing threshold then no swing occurs, as trading costs
will not have any material impact on other shareholders.
BlackRock favours this method because there is normally a lower
impact on NAV volatility, given that the price is not swung on each
valuation date. Additionally, having a threshold recognises that smaller
deals can be frequently be managed within existing cash levels.
Swing pricing works and is increasingly becoming
the industry standard
Simply put, we believe swing pricing is the fairest way of addressing
the issue of dilution on a single-priced fund range, and argue we are
not alone in doing so. Increasingly, evidence suggests that, in terms
of protecting the interests of investors, swing pricing is becoming
the standard in the cross-border mutual funds market. Indeed, the
Luxembourg funds industry trade body ALFI (the Association of the
Luxembourg Fund Industry) recently confirmed a strong directional
trend towards the adoption of swing pricing among major market
participants.
According to ALFI’s 2011 survey, the majority of its most significant
respondents are already using this model, and the number of fund
managers using it overall has trebled in the last five years. This
is perhaps unsurprising given the turmoil that followed the global
credit crisis and the marked increase in the costs of trading (and
therefore dilution). Of those managers not currently using price
swinging, evidence suggests that many are considering doing so.
The performance benefits of swing pricing
Meanwhile, other studies have revealed the benefits of a swing
pricing policy. BlackRock carried out a study across the 44 funds
that swung in its BGF range and the 12 that swung in the BSF range
over the period from July 2010 to June 2011, which revealed that
performance for each of the funds would have been impaired, in
some cases quite considerably, had we not operated the policy.

The results below highlight the most significant performance impacts across the BGF range
Number of
Swings during
the period
Base ccy
price at
beginning
of period
Base ccy
price
30 June 2011
Class Base
Performance
Performance
without
Swinging
Performance
benefit
BGF Asian Tiger Bond Fund 72 27.25 29.19 7.11% 4.59% 2.52%
BGF Global High Yield Bond Fund 60 14.59 16.79 14.24% 12.11% 2.13%
BGF US Dollar High Yield Bond Fund 42 19.69 22.64 14.94% 14.25% 0.69%
BGF World Technology Fund 12 10.39 13.33 28.34% 27.89% 0.45%
BGF Emerging Markets Bond Fund 32 11.67 12.88 10.38% 9.97% 0.41%
BGF China Fund 42 11.19 12.69 13.35% 12.95% 0.40%
The study on the BSF range found similarly compelling results. We again highlight the most significant
Number of
Swings during
the period
Base ccy
price at
beginning
of period
Base ccy
price
30 June 2011
Class Base
Performance
Performance
without
Swinging
Performance
benefit
BSF Latin American Opportunities Fund 20 112.95 149.9 32.71% 30.48% 2.24%
BSF European Opportunities Absolute Return Fund 10 100 101.4 1.40% 0.65% 0.75%
BSF Fixed Income Strategies Fund 14 100.78 103.35 2.55% 2.06% 0.49%
BSF European Diversified Equity Absolute Return Fund 28 101.82 112.4 10.39% 9.95% 0.44%
BSF European Opportunities Extension Strategies Fund 6 88.11 104.88 19.03% 18.62% 0.41%
BSF European Credit Strategies Fund 7 118.81 113.64 -4.35% -4.73% 0.38%
Source: BlackRock, August and November 2011.
The funds’ performance would have been diluted (reduced) by
the amounts shown in the final column had we not protected it
by using price swinging.
Investors that trade at a swung price are effectively paying the dealing
costs associated with their activity. Applying swing pricing to a fund’s
traded NAV is not done for the benefit of fund promoters or service
providers but solely to protect existing investors’ interests.
A governance-led process – How BlackRock
sets its thresholds
Every one of our funds in the BGF and BSF ranges has an individual
swing threshold and impact fee (the amount by which the NAV
is swung). Both are dependent on the liquidity of the underlying
markets in which a particular fund invests. This means that the swing
amount will differ across asset classes and regions, and is likely
to be lower in more mainstream or developed markets. Thresholds
and impact fees are set by BlackRock’s Swinging Committee, which
meets at least monthly, but may do so more regularly if market
conditions require. These meetings capture our best estimate of
actual trading costs, and review the current levels of protection
provided by swinging to understand if they remain relevant.
The thresholds are confidential, as is generally the case in the
industry, in order to prevent any attempt to avoid a price swing by
dealing in an amount just below the threshold. However, we are
happy to discuss our impact fees with clients, giving them a clear
understanding of the impact their trading activity may have.
It is worth noting that unforeseen events, like the collapse of Lehman
Brothers in September 2008, or the more recent euro crisis of
2010/2011, can cause risk aversion to spike, meaning that market
liquidity evaporates and dealing costs rise accordingly. In such
scenarios, impact fees should be expected to be increased, and/or
thresholds lowered, by the Swinging Committee in order to provide
the appropriate level of protection in the new conditions.
Conclusion
BlackRock has pursued its simple, but specific, approach to fund
performance dilution for a number of years, reflecting its status
as a pioneer. Our policy is solely about protecting the interests of
investors, and we should emphasise again that when an investor is
impacted by a price swing in subscribing to, or redeeming from, a
fund they are only paying/receiving a fair price, taking into account
the costs of dealing. Ultimately, investors would have to bear these
costs themselves if they were dealing in the underlying securities
direct. These are the costs of investing and they have to be borne.
Our investors are not being treated unfairly.
We believe that we can demonstrate that funds that apply swing
pricing will show superior performance over time compared to
those (with identical investment strategies and trading patterns)
that do not.

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† This tally of awards is correct to 15 October 2011 and does not include iShares ETF products.
* Data as at 30 September 2011.
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