WASHINGTON — Market participants can expect increased municipal securities enforcement during 2015, a year that may bring resolution of the Securities and Exchange Commission's self-reporting initiative as well as greater emphasis on individual liability and secondary market disclosures.
Officials of the Securities and Exchange Commission's enforcement division said the SEC plans to vigorously pursue violations of the securities laws in the muni market after a year of several precedent-setting enforcement actions as well as a self-reporting program that had issuers and dealers combing thousands of transactions in search of potentially misleading statements. Securities lawyers said the market can expect the SEC and Financial Industry Regulatory Authority to continue trends from 2014, while also adding additional areas if focus.
An important development during the coming year will be the unwinding of the SEC's self-reporting program, the Municipalities Continuing Disclosure Cooperation initiative. The MCDC consumed the attention of bond lawyers, issuer officials, and broker-dealers for much of the year by offering reduced settlement terms for transaction participants who reported instances during the past five years in which they offered bonds under official statements that falsely stating they were in compliance with their continuing disclosure agreements.
LeeAnn Gaunt, director of the SEC enforcement division's municipal securities and public pensions unit, said that her office wants to get the MCDC settlements done as quickly as possible. "We've got a lot of resources on it," she said in a brief interview.
Gaunt said earlier this month that completed settlements will offer a glimpse into the SEC's thinking on what is considered to be "material" for continuing disclosure -- a topic of controversy since the MCDC's debut in March. Bond lawyers said they are eager to see how the initiative unfolds. Norman Goldberger, a partner at Ballard Spahr in Philadelphia, predicted that fights could erupt over the issue of materiality as the MCDC unwinds.
The settlements "will provide at least the SEC's view as to what is material disclosure regarding compliance with prior continuing disclosure undertakings," said John McNally, a partner at Hawkins Delafield & Wood in Washington.
Paul Maco, a partner at Bracewell & Giuliani in Washington, said market participants should watch to see how the SEC divides and approaches MCDC submissions. Many securities lawyers have suggested that the program could create multiple "buckets" of deals sorted by how egregious the misrepresentations in the official statements seem to be.
"They certainly have a lot to go through," Maco said.
Ernesto Lanza, a shareholder in Greenberg Traurig's Washington office, said another aspect to watch will be how the SEC reacts when only one deal participant self-reports. The MCDC intentionally created tension between underwriters and issuers by giving each an incentive to implicate the other in a potential violation of the securities laws. Plus their deadlines differed. The one for the dealers was in September, while the one for the issuers was Dec. 1.
Lanza said the SEC could either choose to show some leniency, or throw the book, at entities that chose not to participate in the initiative. "That will be extremely interesting," he said.
Gaunt said she would prefer to finish the MCDC settlements during the coming year if possible, but that timing is difficult to predict with accuracy.
Personal Liability
Market participants should also look for an increased focus on personal liability, several lawyers said. SEC enforcement officials have long said that the commission would pursue sanctions against individuals in the muni market whenever the facts supported it, but they put some teeth in those statements this year, charging multiple individuals, including municipal officials in Miami, Fla. and Allen Park, Mich., with securities fraud and imposing fines and other sanctions on them.
"We're putting a continued focus on that, which people should expect to see in 2015," Gaunt said.
Goldberger said he expects to see the SEC pursue big muni cases in the coming year that feature tough cease and desist orders with restrictions on issuers akin to backdoor regulation of municipalities.
"I think in egregious cases you're going to see prosecutions of officials," Goldberger said.
Dave Sanchez, a former SEC muni office lawyer who now runs his own law firm in California, said market participants should take the commission at its word when it says it will do something.
"I do believe the SEC will continue to pursue individual liability in all cases," he said.
Peter Chan, a partner at Morgan, Lewis & Bockius in Chicago and architect of the MCDC initiative who left the SEC's enforcement team earlier this year, said he expects to see more cases targeting individuals and more cases being filed in federal court. The SEC can choose to bring cases either as administrative actions in front of their own administrative law judges, or it can file them as civil lawsuits in federal court. Chan said a move toward tougher penalties in 2015 will lead to fewer settled administrative proceedings and more court litigation.
"My prediction is that we're going to see more litigated SEC cases, perhaps even going to trial," Chan said.
Chan said the market should also expect to see more enforcement in the secondary market this coming year. The availability of secondary market pricing information is clearly important to SEC commissioners and was cited as a market weakness in the SEC's 2012 Report on the Municipal Securities Market, which Gaunt said provides a good roadmap to her office's priorities.
While the Financial Industry Regulatory Authority has the authority to bring penalties against firms who violate Municipal Securities Rulemaking Board Rules governing dealers' responsibilities to customers, the SEC can also use the antifraud provisions in federal law to enforce the rules. Sanchez said such cases serve a valuable purpose for the commission.
"I think you will continue to hear that the SEC enforcement division is interested in secondary market trading issues and issuer protection cases," Sanchez said. "Although secondary market trading and issuer protection cases may take few years to come to fruition, I do think that the SEC recognizes the value of such cases in order to send a message about the overall efficiency of the market for both issuers and investors."
The muni market could also bring enforcement actions against newly-regulated municipal advisors in the coming year, Gaunt said, noting that her office will be the primary regulator of non-dealer MAs, who cannot be penalized by FINRA. The SEC in August announced a two-year exam program focusing on MAs who are not members of FINRA.
Leo Karwejna, managing director and chief compliance officer at Public Financial Management, said MAs should not be too apprehensive about the exam process but cautioned that the SEC might not hesitate to bring actions against advisors who appear to be breaking rules and laws, including their fiduciary responsibilities to put the interests of muni issuer clients ahead of their own.
"You could see enforcements," Karwejna said. "I think very quickly the SEC will make the point that it wasn't kidding."
Gaunt said her office will be looking for violations of rules governing pay-to-play and gifts and gratuities, and will also continue to examine public pension funds from the standpoint of both market disclosure and as victims of unscrupulous advisors. In June, the SEC brought its first ever case under the pay-to-play rule for investment advisors when it charged a Philadelphia-area private equity firm with violating the rules by receiving advisory fees from the city and state pension funds following campaign contributions an associate made to state and local officials.
Lanza said he would be "modestly surprised if no pension disclosure case came up" in 2015 and also said to look for possible enforcement actions on retail market access requirements. MSRB rules say that state and local governments may designate that a specific amount or maturities of new bonds be marketed to retail investors, but there remains some concern among regulators that dealers may be disregarding issuers' criteria for participation in a retail order period.
"I would not be surprised if the SEC or FINRA found instances where retail access rules were not being followed," Lanza said.
