WASHINGTON — The Bond Dealers of America unveiled guidelines Wednesday designed to help dealers comply with suitability, disclosure and pricing rules when dealing with retail investors.
The action is seen as an attempt to stave off implementation of a secondary market disclosure checklist floated by the Financial Industry Regulatory Authority last fall. The BDA’s guidance, developed after several meetings with member firms and FINRA, represents an effort by the industry group to counter what it saw as the self-regulator’s burdensome item-by-item requirement.
“The point is for us to release recommended policies and procedures after we’ve had multiple conversations with FINRA to give dealers a clear example of how to meet their secondary market disclosure obligations without having to have a transaction-by-transaction checklist,” said BDA chief financial officer Mike Nicholas. “That was the intention since last fall, to create a document that’s not a checklist and that still meets [FINRA’s] objectives.”
The BDA’s guidelines set forth recommended practices and procedures for secondary market transactions to bolster dealer compliance with rules issued by the Municipal Securities Rulemaking Board and enforced by FINRA: Rule G-17, which requires dealers to deal fairly with customers in muni-market transactions; Rule G-19, which requires dealers to have a reasonable basis for believing a municipal security is suitable for a customer; and Rule G-30, which requires dealers to trade with muni customers at fair and reasonable prices.
The BDA recommends every dealer adopt a written policy containing a statement about the types of information it expects registered representatives to cull and disseminate to customers in secondary market transactions. They include information representatives obtain and analyze before trading in a muni security with a customer; information representatives learn about the customers, so they can make appropriate disclosures and suitability determinations; and information they disclose to customers.
With respect to disclosure, the guidelines note that neither FINRA nor the MSRB has provided a “safe harbor” outlining the information a dealer must provide to customers.“FINRA is probably not expecting dealers to exhaust all possibilities of what constitutes material information and is probably more concerned with dealers making a reasonable effort to implement good practices and procedures,” the guidelines say.
The BDA also recommends that dealers outline how they expect representatives to ensure they are trading with customers at fair and reasonable prices, and the steps they take to do so. In addition, the group suggests that dealers create a process for representatives to demonstrate compliance with the policy,
The BDA’s guidelines, Nicholas said, let dealers know they may not need to follow an exact replica of FINRA’s compliance checklist, but they do have to establish secondary-market disclosure policies and procedures, and document their adherence to them. “How you do that is up to you, as long as you meet these objectives,” Nicholas said.
FINRA released its checklist last fall, including a step-by-step, seven-page disclosure regimen for registered representatives who sell muni securities in the secondary market.
The FINRA document specifies “items” that broker-dealers should discuss with muni customers, including bond features, terms and sources of repayment, continuing disclosures such as material event notices, and whether a bond’s rating has been recently upgraded or downgraded. An empty box sits beneath each itemized heading, inviting a check mark or highlighting the absence of one.
The checklist also urges broker-dealers to talk about interest payments, tax status, call provisions, and default risk and encourages them to take notes on customer conversations. According to Nicholas, dealers were “taken aback” by the FINRA checklist, with its focus on ticking off items on a list and checking boxes.
Nicholas said FINRA officials have since acknowledged their checklist was not intended to serve as an item-by-item mandate. “But that’s the way it was interpreted,” he said.
A FINRA spokesperson declined to comment Wednesday, but confirmed that the self-regulator had reviewed the BDA’s guidelines. According to a FINRA official who has spoken publicly about the checklist, the document stemmed from the 2008 financial crisis.
At a conference in Washington last month, Mac Northam, FINRA’s director of fixed income, member regulation, and sales practice policy, said self-regulator launched an ongoing review after the financial crisis to ensure broker-dealers were disclosing material information to investors in the primary and secondary markets at the time of the transaction. That review is ongoing.
During the review, FINRA found some firms had no process to monitor their disclosure obligations, Northam said earlier this spring at The Bond Buyer’s National Municipal Bond Summit in Miami. Other firms had developed checklists on their own. FINRA then built on those firms’ approaches, creating its own model.
Nicholas said the BDA has not asked FINRA to endorse its guidance, but officials from both groups met last week to share the final draft.
BDA members have also received the final draft of the guidelines, and have responded favorably.
One observer, however, remained skeptical. “It is encouraging to see progress being made toward improving disclosure in the secondary market,” said Barbara Roper, director of investor protection at the Consumer Federation of America. “Past experience suggests, however, that government mandates are more effective than voluntary industry efforts.”
