WASHINGTON — A municipal market research firm is urging the Securities and Exchange Commission to conduct a review of its municipal bond disclosure rules to address what it warns are "glaring gaps" in market practices.
Richard Lehmann, president of Miami Lakes, Fla.-based Income Securities Advisor, made the request in a letter to SEC chair Mary Jo White dated Nov. 10.
Lehmann told White that the muni landscape has changed greatly since the commission last updated its Rule 15c2-12 more than 19 years ago, and that the current requirements are not sufficient to protect investors. The commission adopted changes to the rule to prohibit broker-dealers from underwriting bonds unless they could reasonably conclude that the issuer had contracted to provide annual financial and operating information and notices on material events when they occurred.
But there have been many changes since then, such as the Internet, which has broadened the reach of information, and the Great Recession and deterioration of state and local government finances.
"While it is not in the interests of government issuers to make disclosures that include their costs of financing, it is not in the long-term interest of the municipal market to allow the few to taint the market's perception of many," Lehmann wrote.
Lehmann, whose firm has gathered and published market data for decades and who also provides investment advisory services through a registered affiliate called Richard Lehmann & Associates Inc., sent White a four-page commentary detailing specific shortfalls he sees in the current disclosure regime and making recommendations on what regulators could do to rectify them.
In an interview, Lehmann told The Bond Buyer that it was a mistake to lump the secondary market disclosure rules into the same part of the securities laws as the primary market rules.
He told White, "Under the present rule secondary market disclosures of negative events are treated as if they are no different from those for the original offering statement or routine periodic reporting. They are anything but; they are often negative market-moving events. The rules also give issuers broad leeway in defining who is responsible for reporting negative events. Issuers are the least likely to want full and timely disclosure and are unlikely to bind themselves to such requirements in the indenture or offering statement."
The Tower Amendment, which was added to the Securities Exchange Act of 1934 in the mid-1970s, prevents the SEC or the Municipal Securities Rulemaking Board from directly requiring issuer disclosures in connection with a bond offering. But Lehmann told White there are still ways the commission could use its existing powers to improve the practice in the market. A big problem lies with municipal trustees, he said in the letter.
"It is generally left to the trustee to determine when there is a need to make an event disclosure, but the trustee's exercise of this responsibility is frequently deficient in a number of ways," Lehmann wrote, adding that trustees frequently disclose adverse events such as technical defaults only to existing bondholders via a conference call.
"There is still a refusal by many trustees to speak to anyone who is not a bondholder," Lehmann wrote. "Trustees generally put protecting themselves from lawsuits ahead of any fiduciary responsibility to bondholders."
The SEC should give trustees and muni authorities charged with compliance issues detailed instructions of what events should be disclosed, in what detail, how soon after the event occurs and how frequently a status update should be made, Lehmann recommended, and brokers should be required to forward all adverse event notices to their clients on a timely basis.
The SEC should also consider doing away with small issues totaling $7.9 billion have defaulted. Lehmann has been tracking defaults since 1983, but uses a broader definition of default than just missed payments of interest and principal.
