WASHINGTON — The Securities and Exchange Commission had no basis to approve the Municipal Securities Rulemaking Board’s interpretative notice to Rule G-17, which spells out underwriters’ fair dealing obligations to state and local municipal bond issuers, the SEC’s two Republican members charged in a six-page dissent of the decision.
Daniel M. Gallagher and Troy A. Paredes voted against the guidance, which was approved May 4 and is to take effect in August. The SEC’s three other members — chairman Mary Schapiro, an Independent, and Elisse Walter and Luis Aguilar, both Democrats — voted together to approve the notice.
The two Republicans said the SEC’s analysis of the guidance did not meet the benchmark of a “careful and balanced assessment” of the intended benefits and possible costs.
“The decision-making process that led to the commission’s approval of the MSRB’s proposed rule change falls far short of meeting this benchmark,” they said. “Accordingly, we do not support the commission order approving the MSRB’s proposed rule change regarding Rule G-17.”
The guidance is aimed at protecting the interests of state and local bond issuers, a mandate for the MSRB from the Dodd-Frank Act. It requires an underwriter to disclose to an issuer that, unlike a municipal advisor, the underwriter does not have a fiduciary duty to the issuer and is therefore not required to act in the best interest of the issuer. Underwriters also must make several disclosures to issuers, including about their compensation and any conflicts of interest.
Dealer groups called the measure premature, and said it could divide the market. They said the SEC should have first finalized its definition of municipal advisor.
Gallagher and Paredes seemed to agree, claiming the MSRB was “to too great extent, summarily dismissive” about “legitimate issues” commenters raised, such as the lack of a definition of municipal advisor.
“A well-reasoned regulatory decision requires that regulators undertake a thorough … analysis of a proposal’s potential impacts on the context of the whole of the relevant regulatory regime — a requirement that regulators seem unable to meet when fundamental features of the regulatory regime are still not in place, as is the case here,” they said.
In addition to ensuring rules prevent fraudulent activity and foster cooperation, Paredes and Gallagher said the SEC is obligated by law to ensure that new rules do not place unnecessary burdens on competition.
“As measured against this benchmark, the consideration by the MSRB and the commission of the MSRB’s proposed Rule G-17 guidance does not constitute a sufficiently reasoned basis upon which to conclude that the statutory standard for approval has been met,” they said.
The letter said that determining the impact of the guidance requires an evaluation based on more than assumptions.
“Unsupported assertions that the hoped-for benefits will materialize, that the costs will be warranted, and that the statutory standard is met are inadequate to justify a rule change,” they said. “The arguments set forth in favor of the rulemaking rely too much on conclusory statements and assumptions, rather than on rigorous analysis of the real-life consequences that could arise.”
Paredes and Gallagher said costs of more-detailed disclosures may eventually be paid by issuers and even taxpayers. Not all issuers need more disclosures, they said.
Meanwhile, the MSRB said in a release: “The new obligations of underwriters to their state and local government clients are consistent with the MSRB’s mandate to protect state and local governments, established by the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010.”
The self-regulator noted that its Board of Directors consists of 21 members representing municipal securities dealers, municipal advisors, municipal issuers, investors and the public. “By virtue of this Board composition, the Board is in a strong position to adequately analyze and assess the potential burden of proposed regulations on both underwriters and issuers of municipal securities and it has done so in this case,” it said.
The MSRB added, “Many underwriters already provide information about the risks of complex municipal securities transactions to their state and local government clients and the MSRB believes that providing this important information is essential to the protection of municipal entities.”
In the case of swap transactions, the MSRB said, “the new disclosures required under MSRB rules are identical to those required of swap dealers under the U.S. Commodities Futures Trading Commission new business conduct rules” and added that, as a result, it “does not believe that these new rules will impose a significant additional burden on underwriters or additional costs to issuers, many of which have expressed their support for this initiative.”
Eric Johansen, chair of the Government Finance Officers Association, said in a statement that the GFOA supports the SEC’s decision to approve G-17 guidance.
"GFOA has continuously supported the revisions to MSRB Rule G-17,” he said.
Johansen added that the group feels it is “imperative” for the SEC to complete its definition of municipal advisor, “so that appropriate MSRB rules may be applied to members of that profession, and a level regulatory playing field is implemented."
