WASHINGTON — Rep. Mike Quigley, D-Ill., has drafted legislation that would authorize the Securities and Exchange Commission to both require issuers to disclose primary and secondary market bond documents directly or indirectly through dealers or others, and to direct the content and timing of those documents.
The draft bill, which is currently being circulated to regulators and market participants for input, also would require corporate conduit borrowers to register with the SEC and meet its corporate disclosure requirements.
It would subject municipal securities to the Trust Indenture Act of 1939 and allow the SEC to temporarily suspend the trading of any municipal bond if the suspension was in the public interest. A spokesperson for Quigley, who sits on two committees — House Oversight and Government Reform as well as Judiciary — said he was unavailable to comment before deadline.
SEC spokesman John Nester declined to comment on the bill, but signaled general support for boosting the agency’s disclosure authority. “We share the congressman’s interest in these issues,” he said.
The draft bill, called the Municipal Securities Transparency Act of 2011, stems from discussions Quigley began with regulators and market participants earlier this summer, according to sources.
The bill comes four months after SEC commissioner Elisse Walter said the commission should seek authority to set “baseline” disclosure standards in the primary and secondary markets.
She is spearheading a commission-wide review of the muni market, slated to culminate in a report later this year that will call for legislative changes to improve disclosure, as well as possible rulemaking and changes in industry practices.
Walter has made clear that there are limits to what the agency could do without legislation.
Under current law, the SEC regulates issuers indirectly, through its jurisdiction over underwriters and through the antifraud provisions of the federal securities laws, which ban false or misleading statements of material fact and omissions of material facts in documents in connection with the sale of securities.
Several people who had seen the draft or been briefed on its details said it would not seek to amend or repeal the Tower Amendment to the Securities and Exchange Act of 1934.
That provision prohibits the SEC and the Municipal Securities Rulemaking Board from requiring issuers to file disclosure documents with them before selling municipal securities.
In particular, the draft does not require issuers to file disclosure documents with the SEC.
Instead, it appears to give the commission discretion to require issuers to furnish such disclosure documents electronically, such as on their own websites, or by posting them on the MSRB’s Electronic Municipal Market Access website. The draft bill does not mention EMMA, but several sources said it could set the stage for issuers to post disclosure documents on the site.
A spokesperson for the board did not respond to a request for comment.
But the bill would, for the first time, amend the Securities Exchange Act of 1934 to give the SEC authority to require issuers, directly or indirectly, through broker-dealers and muni advisors, to provide investors with official statements and disclosure documents, including financial statements and other operating information, as the commission determines is appropriate.
The bill would also give the SEC leeway to set the frequency of such disclosure.
With respect to official statements, a bond attorney said, the bill would give the agency the ability to do directly what it previously has done indirectly, through its authority over underwriters.
Under the SEC’s Rule 15c2-12, dealers generally are prohibited from underwriting municipal securities unless an issuer has contractually agreed to disclose annual financial and operating information, as well as material and other event notices, with the EMMA system.
The rule also requires underwriters to obtain and review an issuer’s official statement before the underwriter bids for, purchases, offers or sells municipal securities in an offering.
But for financial statements, the draft bill “would be a major change to the market,” said one bond lawyer.
Specifically, he said it would enable the SEC to require issuers to supply annual financial information “in a more timely fashion” after the end of the fiscal year and require “periodic financial disclosure.”
Under Rule 15c2-12, issuers sometimes file audited financial statements nine months after the end of a fiscal year or even later.
The draft would enable the SEC to require issuers to disclose quarterly financial statements, and perhaps even require them to prepare the documents in accordance with generally accepted accounting principles, or GAAP, sources said.
It also would revise the Exchange Act and the Securities Act of 1933 to require for-profit conduit borrowers, which are currently exempt from registration requirements, to register with the SEC and file disclosure documents.
“It’s something the SEC has been seeking for more than 40 years,” the bond lawyer said. “It will come as no particular surprise to the market.”
Market participants were less certain about two other provisions of the draft and their impact on the market.
The bill would revise section 12(k)(1) of the Exchange Act to give the SEC authority to suspend trading in municipal securities for not more than 10 business days, if doing so were in the public interest and necessary to protect investors.
The SEC currently has authority to halt trading temporarily in corporate securities.
But an attorney briefed on this provision questioned whether — and how — it would translate in the municipal securities market, where securities are often thinly traded.
Sources wondered if this is being proposed as a kind of stick that is used to encourage muni issuers to improve their disclosure.
The draft would amend the Trustee Indenture Act of 1939 so that it no longer exempts municipal securities, but sources questioned whether this would make sense or be the best way to achieve improvements in muni disclosure.
Generally, the TIA requires corporate bonds to be issued subject to indenture agreements between issuers and trustees and to comply with certain standards. It is an investor protection law and does not focus on disclosure.
Under the TIA, if a corporate issuer becomes insolvent, the trustee can be given the right to seize the issuer’s assets and sell them to recoup money for bondholders.
The act, among other things, requires issuers to provide to the trustee the annual and quarterly financial statements as well as material event notices they file with the Securities and Exchange Commission.
Sources said that if the act were to apply to munis, an issuer would have to send its official statements and continuing disclosure documents to the trustee as well as to EMMA.
If the issuer did not meet its disclosure deadlines, the trustee would become aware of that and could possibly take some sort of action, they said.
But the TIA was written for corporate bond issues and is not a good fit for the muni market, they said. If it were applied to munis there would have to be many exceptions. Many issuers, for example, do not hire trustees and use paying agents to pay debt service.