Auction-Rate Securities Wealth Transfers?

The recent evaporation of liquidity in the Auction-Rate Securities (ARS) market has led to significant frustration for many high-net-worth families and individuals. Over the past several years, ARS became an important cash management option for wealthy individuals, financial institutions, funds, and both public and private companies. Now, the asset class has suddenly become, in the colorful phrase of Liz Moyers, about as illiquid as granite. However, as adversity has a tendency to lead to opportunities to the bold, a number of wealth planners have begun planning for transferring these securities to family trusts. Clearly, since these securities are no longer as liquid as they were expected to be when issued, they require higher yields to maintain their values. For some ARS, though, the maximum yield is set as such a low rate, that a significant value reduction has been the result. This, in other words, is a classic "lack of marketability discount." A secondary market has also arisen, providing investors with the ability to sell their securities (and investors such as distress-funds with the opportunity to make purchases at a discount from par). One of these marketplaces, the RSTN, has experienced significant inflow of new positions over the past few weeks. Discounts depend on a number of factors, including yield, the attitude of the issuer towards refinancing, the likelihood of the auction markets recovering, the maturity of the debt (or lack of a maturity date in the case of auction-rate preferreds, or ARPs), and other factors specified in each prospectus for each tranche. And where significant discounts are to be found, significant wealth planning opportunities tend to arise as well.