WASHINGTON — The Municipal Securities Rulemaking Board plans to propose a draft pay-to-play rule for municipal advisers by the end of the month that will mirror existing political contribution restrictions imposed on dealers under its Rule G-37, chairman Michael Bartolotta told reporters in a conference call Monday morning.
"The rule would restrict advisers from engaging in or soliciting business from municipal entities when an adviser has made certain political contributions to municipal officials responsible for the awarding of business," said Bartolotta, vice chairman of First Southwest Co. in Houston. MSRB officials have said the rule will not be retroactively effective.
The MSRB, which held a special meeting at its Alexandria, Va., headquarters last week mostly to consider issues related to the regulation of muni advisers, also will propose a draft "principles-based" fiduciary duty rule early next year, according to Bartolotta.
The fiduciary duty rule will state generally that advisers must put their clients' interests ahead of their own and would be accompanied by interpretive guidance. The rule will be designed to elaborate on a provision in the Dodd-Frank Wall Street Reform and Consumer Protection Act that imposes a fiduciary duty on muni advisers but leaves it to the MSRB to elaborate what the rule should entail. The law gave the MSRB oversight of muni advisers beginning Oct. 1.
MSRB executive director Lynnette Hotchkiss, who also spoke to reporters, said the rule will not be "unlike our Rule G-17" on fair dealing, "which is really one sentence" requiring dealers to deal fairly with their customers, but is accompanied by significant guidance based on specific fact patterns and certain products.
Bartolotta said the fiduciary duty guidance will outline acceptable behavior concerning a number of topics, including compensation and work with multiple clients. He also said it will address principal trading for a client, in which a dealer buys or sells a security for its own account.
"You cannot be a principal except for very limited circumstances and have a fiduciary responsibility," Bartolotta said.
Meanwhile, Bartolotta said the board decided not to take action on a separate proposal that would require muni dealers to disclose the names of political action committees controlled by banks and bank-holding companies. He said the board instead will work closely with the regulators that enforce MSRB rules to emphasize guidance scheduled to go into effect Dec. 12 that outlines when a bank or bank-holding company PAC can be considered controlled by municipal dealers.
Industry groups urged the board to abandon the proposal on the grounds that it would create the false impression of a nexus between muni dealers and their affiliated PACs, among other arguments. However, the MSRB had already watered down the measure after saying it was concerned that G-37 is being flouted indirectly as a number of securities firms have converted to banks or bank-holding companies whose PACs may make contributions issuer officials. Currently, such PAC contributions are not subject to disclosure under the rule.
Hotchkiss said the MSRB is confident the guidance will be "vigorously" enforced. She added that the board will keep an eye on the issue and can impose disclosure requirements if such action is warranted at a later date.
Bartolotta added: "It's safe to say that we're taking this incrementally."
The circumvention of G-37 has been an issue of concern for the Securities and Exchange Commission, which issued a rare 21(a) report in March detailing how a former vice chairman of JPMorgan Chase Bank, who oversaw but did not work for the bank's bond-underwriting subsidiary, made political contributions to a former California treasurer.
The report, which took no enforcement action against JPMorgan, said that a bank-holding company executive who oversees but is not an employee of a broker-dealer subsidiary's muni unit may still be considered a "municipal finance professional" and subject to G-37's restrictions on political contributions.
Under G-37, dealers cannot engage in negotiated municipal securities business with an issuer for two years if they, their political action committees, or muni financial professionals make significant contributions to issuer officials who can influence the award of bond business. However, municipal finance professionals can contribute up to $250 to any issuer official for whom they can vote. The rule also requires quarterly disclosures of any contributions dealers make to issuer officials or candidates as well as to bond ballot election campaigns.
Meanwhile, MSRB officials told reporters they will soon file changes to Rule G-23 with the SEC that prohibit dealers from first serving as financial advisers and then becoming underwriters in the same transactions. Hotchkiss acknowledged the board is concerned the proposal could negatively impact market access for some issuers, but said it is planning to move forward with the proposal without any significant changes to the one floated in August.
Once the measure is submitted to the SEC, it will be subject to a round of public comments before it is approved.
The board also discussed the registration process it launched Nov. 15 for muni advisers, and directed staff to monitor closely whether firms engaging in advisory activities have met their obligation to register by no later than Jan. 1, 2011. The board also will amend its Rule A-15 to require that advisers notify it if they cease to engage in advisory work, whether voluntarily or due to SEC sanctions.
The board's next meeting is scheduled for Jan. 27 and 28 in San Diego. It also has scheduled a Jan. 25 outreach event in Los Angeles that is free to market participants.
