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DOWNINGTOWN AREA SCHOOL DISTRICT SCHOOL BOARD POLICY SECTION: FINANCE 1 627. INTEREST RATE SWAPS 2 3 4 Interest Rate Swap Contracts 5 The Board recognizes that interest rate swaps can increase the District’s financial 6 flexibility, provide opportunities for interest rate savings or enhanced investment 7 yields, and help the District manage its balance sheet through better matching of 8 assets and liabilities. Swaps should be integrated into the District’s overall debt and 9 investment management guidelines and should not be used for speculation or 10 leverage. The District has legal authorization to enter swaps under the Local 11 Government Unit Debt Act, 53 Pa. C.S. Chs 80-82 (the “Act”). This policy is 12 designed to complement the Act and the requirements thereof. 13 14 Appropriate Use 15 The District, together with the District’s Financial Advisor and Swap Counsel, shall 16 review each interest rate swap before entering into a contract. 17 18 Examples of Rationales for Utilizing Interest Rate Swaps and Options 19 20 1. Optimize capital structure; including schedule of debt service 21 payments and/or fixed vs. variable rate allocations. 22 2. Achieve appropriate asset/liability match. 23 3. Manage risk, including: 24 Interest rate risk; 25 Tax risk; 26 Yield curve risk; or 27 Liquidity renewal risk. 28 4. Provide greater financial flexibility. 29 5. Produce greater expected interest rate savings or incremental yield 30 than cash market alternatives. 31 6. Manage exposure to changing markets in advance of anticipated bond 32 issuances (through the use of anticipatory hedging instruments). 33 7. Provide a specific benefit not otherwise available. 34 35 Permitted Instruments 36 The District may utilize the following financial products on a current or forward 37 basis, after identifying the objective(s) to be realized and assessing the risks: 38 39 1. Interest rate swaps, including floating-to-fixed, fixed-to-floating 40 and/or floating-to-floating basis swaps 41 2. Interest rate caps/floors/collars 42 3. Options, including swaptions, caps, floors, collars and/or cancellation 43 or index-based features 1 DOWNINGTOWN AREA SCHOOL DISTRICT SCHOOL BOARD POLICY SECTION: PUPILS 1 2 Procedure for Submission and Execution 3 The District may consider interest rate swaps and options that are either presented 4 as proposals or that are developed by the District in consultation with consultants, 5 advisors and legal counsel. 6 7 Procurement and Execution 8 The District will not have a fixed guideline with respect to swap procurement 9 and execution. The District will assess the benefits of competitively bidding 10 financial products that are non-proprietary or generally available in the 11 marketplace. On a product-by-product basis, the District will also have the 12 authority to negotiate the procurement of financial products. 13 14 For both competitively and negotiated procurements, the execution of any 15 interest rate swap or option transaction shall be the subject of an 16 independent review, analysis and finding that its terms and conditions 17 reflect a fair market value of such agreement as of the date and time of its 18 execution. 19 20 Counterparty Risk Assessment 21 The District will only do business with highly rated counterparties or 22 counterparties whose obligations are supported by highly rated parties. Per 23 the requirements of the Act, which enabled local government units such as 24 the District to enter into interest rate management agreements, the credit 25 rating of any counterparty shall be at least the third highest rating category 26 from a nationally recognized rating agency. 27 28 Per the Act, qualified swap counterparties, or their guarantor shall be rated 29 at least “A”, or equivalent by any of the nationally recognized rating agencies 30 (i.e. Moody’s, Standard and Poor’s, and Fitch). In addition, the counterparty 31 must have a demonstrated record of successfully executing swap 32 transactions. 33 34 The District should not have an immutable credit standard. However, it shall 35 be the District’s preference to do business with highly rated counterparties of 36 “Aa3” or “AA-” or better. For lower rated (below “Aa3” or “AA-”) 37 counterparties, the District will consider credit enhancement in the form of: 38 39 1. Contingent credit support or enhancement; or 40 2. Collateral consistent with the policies contained herein. 41 42 Risk Exposure Associated with Swap Contracts 43 In connection with any swap, the District and its Financial Advisor shall review the 2 DOWNINGTOWN AREA SCHOOL DISTRICT SCHOOL BOARD POLICY SECTION: FINANCE 1 proposed transaction and outline any risks associated with the transaction The 2 District shall evaluate all of the risks inherent in a swap transaction before 3 proceeding. The risks to be evaluated should include counterparty risk, termination 4 risk, basis risk, tax event risk, yield curve risk, liquidity / remarketing risk, and 5 market access risk. 6 7 8 Legal and Contractual Requirements 9 Unless otherwise approved by the District, the District will use standard ISDA 10 swap documentation including the Schedule to the Master Agreement and a Credit 11 Support Annex as applicable. The District may use additional documentation if the 12 product is proprietary or the District deems in its sole discretion that such 13 documentation is otherwise in its interest. 14 15 Pennsylvania Legal Authorization and Requirements 16 Per Pennsylvania’s Local Government Unit Debt Act, 53 Pa. C.S. Chs 80-82, 17 any derivatives agreement entered by the District must relate to an 18 outstanding debt instrument of the District. The Agreement must contain 19 the following provisions: 20 21 Termination Provision 22 The agreement must contain a termination provision granting the District 23 the right to optionally terminate a swap agreement at any time over the term 24 of the agreement. In general, exercising the right to terminate an agreement 25 should produce a benefit to the District, either through the receipt of a 26 payment from a termination or, if the termination payment is made by the 27 District, in conjunction with a conversion to a more beneficial (desirable) 28 debt obligation of the District, as determined by the District. 29 30 Collateral 31 As part of any swap agreement, the District may require collateralization or 32 other forms of credit enhancements to secure any or all swap payment 33 obligations, as deemed appropriate by the District and its Swap Counsel and 34 Financial Advisor and under the following guidelines: 35 36 1. Each counterparty to the District may be required to post additional 37 collateral if the credit rating of the counterparty or parent falls below 38 a rating as determined by the District and its Financial Advisor at the 39 time of executing the agreement. 40 2. Collateral shall be deposited with a third party trustee, or as 41 mutually agreed upon between The District and the counterparty. 42 3. Acceptable securities that may be posted as collateral include cash, 43 government treasuries and agency securities. 44 3 DOWNINGTOWN AREA SCHOOL DISTRICT SCHOOL BOARD POLICY SECTION: PUPILS 1 The District will not agree to post collateral under any circumstance. 2 3 Interest Rate Management Plan 4 Per the Act, the District and its Financial Advisor will prepare an Interest 5 Rate Management Plan prior to entering any transactions under these 6 Guidelines. 7 Per the terms of the Act, the District will receive a Fair Market Opinion from 8 its Financial Advisor with respect to each transaction and will monitor the 9 risks with respect to all outstanding transactions on a regular basis. 10 11 Ongoing Management 12 Per the Act the District shall contract to receive on-going monitoring of interest rate 13 risk, basis risk, termination risk, credit risk, market-access risk, and other risks 14 associated with the outstanding swaps. 15 16 The District will seek to maximize the benefits and minimize the risks of derivative 17 instruments by actively managing its derivative program. This will entail frequent 18 monitoring of market conditions, by the District’s Business Administrator and the 19 Financial Advisor, for emergent opportunities and risks relating to existing 20 qualified interest rate management agreements. Active management may require 21 modifications of existing positions including for example: 22 1. Early termination; or 23 2. Temporary suspension of cash flows; or 24 3. Shortening or lengthening the term; or 25 4. Sale or purchase of options; or 26 5. Use of basis swaps. 27 28 29 ADOPTED: 11/11/2009 30 4
"NO627 Interest Rate Swaps"