By Marina Mets, managing director, FTSE Russell Canada
One of the key design elements for any broad market benchmark is considering the minimum size of an index constituent. In equity indexes, the market capitalization of an issuer (such as large, small, or microcap) determines its relevant index eligibility. For fixed income benchmarks, a bond’s amount outstanding is one of the key characteristics used to determine index eligibility while serving as a transparent proxy for liquidity. As capital markets evolve and issuance patterns change, it is important to constantly review index eligibility thresholds to ensure the benchmark accurately reflects and tracks the market it is intended to represent.
To maintain accurate benchmarks, it is not just important to focus on the details of index construction, but equally important to have a robust and transparent process for engaging with the marketplace. We have implemented a thorough, disciplined methodology to gather feedback from a broad set of Canadian fixed income market investors on key topics. With guidance from our independent practitioner advisory committees, significant progress has been made over the past year to review and streamline existing index methodologies with a view to ensuring they continue to represent best practice.
We have engaged the market in a series of public consultations around the Index Evolution Pathway, Universe Bond Index Inclusion and Treatment of Legacy NVCC (non-viable contingent capital) debt. And we have broadly communicated our findings and any resulting decisions to the market and our end users.
We recently completed a Canada market consultation on minimum issue size inclusion considerations for several FTSE Canada Bond Indexes. The consultation, launched earlier this year, asked the market for feedback on minimum issue size thresholds for the FTSE Canada Universe, Maple and High Yield Bond Indexes as well as for the Government and Corporate sub-indexes. Our research indicated that in the last 10 years the index is holding a greater number of securities with larger individual issue size, whereas securities with smaller size have continued to be captured in similar numbers. For example, Figure 1 shows the number of bonds composition of the FTSE Canada Universe Bond Index in 2006 and 2017 by amount outstanding bucket. Read a detailed summary included with the consultation.
Source: FTSE Russell as of December 29, 2017
FTSE Canada Bond Indexes consider the current amount outstanding of the individual securities, adjusted for any buyback, stripping, principal amortization or corporate actions in calculating the market capitalization, weights and contribution to returns. As securities may have a smaller amount outstanding than at issue, the consultation also considered user feedback on the possible application of minimum issue size thresholds throughout the life of a bond.
We saw robust participation in the survey from a comprehensive range of market stakeholders, including asset owners, asset managers, issuers and sell-side institutions. With findings recently shared with clients and the public on our website, the results mostly confirmed that the minimum size thresholds for our Canada bond indexes continue to be largely representative of the market and suitable to investor needs. The only finding that warranted a change is in the minimum threshold for Canada Government bonds in the Universe Bond Index. Investors felt our current $50M level was too low and, as a result, it will be raised to $100M effective January 1, 2019. Read the full report of findings.
We will no doubt look for more opportunities in the future to solicit feedback from Canadian investors. As the Canadian bond market evolves, we continue to evolve our global index capability along with it.
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