WASHINGTON — Groups representing broker-dealers and investment companies are urging the Securities and Exchange Commission and other regulators to exempt tender-option bonds from proposed credit risk-retention rules that were mandated by the Dodd-Frank Act.
“Tender-option bonds have been in the marketplace for nearly 20 years and there is nothing inherent in the tender-option bond product that warrants the application of risk-retention rules to this market,” the Securities Industry and Financial Markets Association said in a five-page letter signed by Leslie Norwood, SIFMA’s managing director who co-heads its municipal securities division.
“The tender-option bond market brings tax-exempt securities to money market funds that invest in tax-exempt securities.”
Norwood said the TOB market, which involves repackaged long-term muni bonds, has become “significant” to the short-term tax-exempt bond market because there is not sufficient short-term tax-exempt product issued by state and local governments to satisfy the demand on the investor side.
If these proposed rules are applied to TOBs, they “will result in a significant contraction of the availability of those investment products to investors,” she said.
The Investment Company Institute made the same plea, asking for an exemption or a clarification that the rules do not cover TOBs, which one investment manager contends is currently a $70 billion to $80 billion market.
“The structural characteristics of TOB programs would make it difficult for their sponsors to satisfy the proposed risk-retention requirements,” the group said in a 12-page letter signed by its general counsel, Karrie McMillan.
The proposed rules would implement provisions of the Dodd-Frank Act that were designed to make certain there would be no replay of the events leading to the subprime loan-triggered financial crisis, when the originators of such loans had no incentive to ensure they performed well and essentially walked away from them when they did not.
The rules would require securitizers, entities that buy and bundle assets, to retain 5% of the credit risk of the assets collateralizing asset-backed securities. But ABS would be defined broadly.
When the SEC proposed its credit risk-retention rules in March, it exempted municipal securities from them after market participants warned they would cause havoc in the muni market.
Now SIFMA, the ICI, and Houston-based investment manager Invesco are worried the proposed rules could be applied to tender-option bonds, which essentially are a repackaging of long-term muni bonds into a money-market-eligible class of floating-rate securities that can be tendered at par plus accrued interest, and inverse floating securities.
“At $70-80 billion, the current TOB market remains very significant, although it has decreased from its earlier height of approximately $200 billion,” Invesco said in a two-page letter signed by Lyman Missimer, head of global cash management and municipals for the company.
“If TOBs were subject to the risk-retention requirements of the proposal, the cost of such financing would increase significantly, sponsor banks would likely scale back on the issuance of TOBs, and as a result the availability of tax-exempt investments in the market would decrease.”
