Broker Dealer Selection Policy

Appendix 1
Selection of Banks and Broker Dealers

Following is the approved policy and procedure for selecting broker/dealers and for the purchase and sale of securities. (Unless otherwise specified, all references to dealers will be assumed to include banks and brokers.)

A dealer is an investment bank, brokerage firm, or commercial bank that purchases or sells securities for purchase or sale to other investors. A broker is an investment bank, brokerage, or commercial bank that finds a willing buyer and a willing seller and then executes transactions with each. Sometimes dealers act as underwriters and investors can purchase securities when they are originally issued.

OBJECTIVE: The objective of this policy is to establish a process for City investment transactions insuring competitive prices from sound/reputable firms, while providing investment business opportunities for local firms.

I. Approved Dealer List

• The Treasurer shall recommend and maintain a list of dealers approved by the Investment Oversight Committee, with whom the City may conduct investment business.
  • The Investment Oversight Committee shall approve the list of dealers at once a year.
  • Changes can be made at any time during the year based on recommendations by the Treasurer.

II. Requirements for Approved Dealers

• A dealer must provide/submit the following to be considered.
  • An interview via phone or in person, followed up by a letter of introduction, resume and request to do business.
  • Completed City Broker/Dealer Information form, which includes a certification that the dealer has read the City Investment Policy and shall abide by its terms and conditions, and will provide suitable investment advise.
  • Copies of the firm's latest financial statements or SEC form 10-K. Continued disclosure is required to stay on the approved dealer list; annual or quarterly reports or SEC form 10-Q.
  • Proper registration. All firms shall be registered with the National Association of Securities Dealers (NASD). Treasury staff performs a registration/background check with the State on the firm and the individual; insuring firms are registered and individuals are registered/licensed to do business in New Mexico. Banks are exempt from registration, but background checks are done on all individuals.
  • Dealers in Repurchase Agreements must properly execute a Master Repurchase Agreement with the City. (An executed copy of this agreement must be on file before the City will enter into any repurchase agreements with the issuer.)
    • To be approved, the firm must be a primary dealer and must have the capability to continually bid on the City's repo (up to $100 million); adequate and proper collateral, timely and efficient settlement process, competitive pricing.
• Capital Requirements.
  • For broker/dealers, pursuant to SEC guidelines and requirements, approved firms must have and maintain regulatory net capital greater or equal to 5% of aggregate debit balances.
  • For banks, pursuant to OCC guidelines and requirements, approved firms must have and maintain an excess level of tangible capital as a percentage of average total assets based on the established risk-weighted formula in tandem with the Federal Reserve Board established leverage ratio of 3% Tier 1 capital to total assets, and must provide capital adequacy assessments of Federal Bank regulators.

III. Due Diligence

To insure all requirements are met and services to be provided fit the City's needs, the Treasurer and his staff shall analyze the information provided by the dealer prior to recommending approval by the Investment Oversight Committee.

Factors considered are:

• Volume of US and government securities traded,
• Instruments regularly offered by the firm,
• Individual experience with permitted City investment securities,
• Market-making/underwriting capabilities (selling group membership),
• Research capabilities of the firm,
• General reputation of the firm and the individual,
• Registration requirements of the firm and the individual,
• Capital strengths and earning trends of the firm, and
• Other financial and advisory services provided to the City.

IV. Term

Once the recommendation is approved, the City can conduct business with the dealer until such time as they are disapproved by action of the Investment Committee (see Managing Dealer Relations) or by the dealer.

Pending applications to be an approved dealer will be kept on file in Treasury for 1 year. If after 1 year a dealer has not been approved, or if a dealer has been removed from the approved list, they must reapply to be considered.

V. Investment Transactions

Customarily, investment transactions are completed within a short period of time (10 mins). Within that time frame, each dealer involved receives the details of the transaction, obtains his bid/offer from the trader, and calls the City back with his response. The Investment Officer logs the time of his call to each dealer and the response. An excessively delayed response could disqualify a dealer from the transaction. A trend of untimely responses could be grounds for removing a dealer from the approved list. Acceptance of the bid/offer shall be based on best price, best execution; which most benefits or satisfies the needs of the City

• General
  • The Investment Officer shall only conduct investment transactions with dealers on the approved dealer list.
  • The Investment Officer shall insure all approved dealers have an opportunity to compete for the City=s business.
  • The Investment Officer shall maintain the rotation list and shall report activity at the monthly Investment Committee meeting.
  • Dealers will be selected on a rotating basis according to positions (types of securities) they trade and their classification; local, primary and other.
    • Newly approved dealers will be added to the end of the rotation within their classification.
• Selecting Dealers For Transactions (Executing Trades)
  • Primary market transactions (New Offerings)
    While a security is offered within the syndicate/selling group, the Investment Officer can accept the offer of the underwriter or any member of the selling group, usually based on a first caller basis. The City shall make no pre-sell commitment or place an order until the coupon and terms are set. In addition, due to market volatility, the City shall not accept offers for securities with long settlement periods/dates (>14 days??).
  • Secondary market transactions including security sales and swaps & trades
    • For all secondary bids/offerings and new offerings that are freed to trade prior to settlement, the City shall obtain a minimum of 3 bids/offers from dealers on the approved list. The City shall solicit one bid/offer from a local dealer and one bid/offer from two non-local dealers; at least one party must be a primary dealer.
      • A tie is settled by a coin toss.
    • Dealers rotate, winner included in next trade. Subsequent trade includes the winner and the next local and non-local dealer on the rotation list.
      
      • List is arranged by group (local and non-local) in order of approval date.
  • Repurchase Agreements
    • Like the NM Treasurers Office, the City Treasurer maintains a list of 5 primary dealers, nationally recognized for making a market in repurchase agreements and approved for overnight Repo transactions.
    • Each morning, the City, through its Fiscal Agent bank shall obtain bids from those dealers. Beginning each week bids are solicited from all 5 dealers. The top 3 bidders are given the opportunity to bid the rest of the week.
    • Repurchase agreements shall be collateralized at 102% of the principal value of the transaction, with permitted securities stipulated by the City, and settled on a Delivery-Vs-Payment (DVP) basis through a third party institution approved by the City.

VI. Managing Dealer Relations

• The Treasurer and his staff shall conduct investment activities in ways that enable them to monitor and control dealer relationships.
  • The dealer performance of each transaction, including confirmation and settlement shall be monitored and recorded.
  • Dealer financial information shall be reviewed at least annually. Summary reports will be given to the Investment Committee.
• Number of Approved Dealers
  • To facilitate (relations management) management of the process and to promote business opportunity for those approved, the maximum number of approved dealers is 20.
  • The approved repo list shall include only the 5 most competitive primary repo dealers based on historical bids of those on the list and indication bid levels of those desiring to be on the list.
• Composition of the Approved Dealer List
  • The approved dealer group (list) shall include at least 1 local dealer (New Mexico) and 1 primary dealer, with no other limitation on the number of approved local or primary dealers. The sample size adequately represents the universe of securities dealers trading permitted investments for the City while providing opportunities for local firms.
    • Primary dealers provide a complete market in the entire spectrum of Treasury instruments and are members of all agency selling groups.
    • The other securities dealers, which are non-local/primary include banks and regional dealers transacting in various government securities as well as specialized issues/products (e.g. CMOs, structured notes).
    • Local (New Mexico) firms can be NM offices of Primary dealers or other dealers.
  • The list shall be divided into two groups; local and non-local.
• Changes to the Lists
  • The Treasurer and his staff shall review monthly reports on the performance of approved dealers and recommend any changes to meet the best interests of the City. At this time they will consider requests from unapproved dealers wanting to do business with the City.
  • If, in the judgment of the Chairperson of the Investment Oversight Committee or the Treasurer, a dealer is considered to have placed the City's investments at risk, removal from the approved list can be made immediately.
    • Primary dealers are regulated by Fed and provide the lowest risk; default risk (capital adequacy), transaction risk (delivery failure/inefficient operation-delivery vs pmt), misrepresentation risk (price/characteristics-competition and knowledge of securities). The Fed does not closely monitor other firms.
  • The Investment Manager shall review monthly dealer repo reports and, based on competitive and overall performance, recommend changes.
    • A dealer who does not win a repo within 6 months will be removed from the list.
    • The Investment Officer may recommend removal of a dealer from the list if the dealer continually submits non-competitive bids, provides inadequate or improper collateral, or settles transactions inefficiently and untimely.
    • If a dealer is removed from the list, the opening shall be filled by the most competitive, based on bid indication levels, of interested/qualified dealers awaiting approval. No dealer shall be approved until a properly executed Master Repurchase Agreement is on file with the City Treasurer.
    • Dealers removed from the list must resubmit an application to compete for the City's repo business, waiting until there is an opening on the list.