WASHINGTON — The central issue for Municipal Securities Rulemaking Board members gathered for a special meeting Thursday and Friday at their Alexandria, Va., headquarters is how the self-regulator will oversee municipal advisers.
Sources said the 21-member MSRB, which began to oversee muni advisers Oct. 1, will discuss how to extend its existing dealer pay-to-play restrictions to muni advisers as well as how to elaborate on the fiduciary duty required of them in the Dodd-Frank Wall Street Reform and Consumer Protection Act.
Owing to the complexity of each topic, the board’s discussions may roll over to its regularly scheduled quarterly meeting next month in San Diego, sources said.
The board also plans to take up a long-standing proposal to alter its Rule G-37 on political contributions that would require municipal securities dealers to disclose the names of political action committees controlled by bank holding companies or other affiliates.
“Those are the three big action items,” said one MSRB official.
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, they 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.
To restrict advisers from pay-to-play practices, the MSRB may simply extend that rule to advisers or draft a separate rule directed at similar contributions.
MSRB officials declined to discuss in depth the specifics of the fiduciary duty proposal. Some market participants speculated that the board may draft a new rule — possibly G-42 — that would outline the behavior that would comport with that duty. The Dodd-Frank law leaves it up to regulators to define the duty, which most market participants generally believe should require advisers to hold their clients’ interests ahead of their own.
Some financial advisers believe the board should weigh in on so-called contingent fees, in which advisers are paid only if the issuer enters into a transaction.
Though a number of issuers prefer contingent fees, partly because they do not want to pay advisers out of pocket, some advisers say the fees are difficult to mesh with a fiduciary duty. The fees make it impossible to provide unbiased advice when the only way they get paid is for the transaction to move forward, said Robert Doty, president of the advisory firm, American Governmental Financial Services Co., in Sacramento.
“Contingent fees are a serious problem in the market,” he said.
Though it will take years to flesh out the details of the fiduciary duty, Doty said that the board should consider, at a minimum, requiring advisers to offer alternative fee structures to contingent fees. For issuers that insist on them, advisers ought to be required to advise them about the inherent conflicts, he said.
The Government Finance Officers Association already discourages contingent fees. A 2008 best-practices document warns that financial advisers should be paid on an hourly or retainer basis.
“Generally, financial advisory fees should not be paid on a contingent basis to remove the potential incentive for the financial adviser to provide advice that might unnecessarily lead to the issuance of bonds,” the document says. “GFOA recognizes, however, that this may be difficult given the financial constraints of many issuers.”
It was unclear how the board would weigh in on the bank PAC proposal. Industry groups have 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 has already watered-down the measure and is 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.
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.
Meanwhile, the MSRB announced Wednesday that its Electronic Municipal Market Access system has begun to collect additional continuing disclosures submitted by muni borrowers.
The expansion of EMMA reflects changes to the SEC’s Rule 15c2-12 on disclosure designed to increase the quantity and timeliness of continuing disclosures.
In general, the rule now requires that issuers submit these filings to the MSRB within 10 days of an event’s occurrence, replacing the previous “timely basis” filing standard. While the issuer previously could determine if an event was material, the rule changes require that most events — such as tender offers or failure to pay principal and interest — be reported without regard to materiality.
The board said in a press release that EMMA users can also sign up for an unlimited number of e-mail alerts regarding the availability of disclosures made for a particular muni bond.
Separately on Wednesday, the board filed technical amendments with the SEC to its Rule A-3 on membership. But they do not entail any substantive changes to a Nov. 8 proposal that would require a majority of the MSRB’s nominating committee to consist of “public” members.
