Outlook 2018: A lull in muni rulemaking

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PHOENIX – The coming year will see the Municipal Securities Rulemaking Board focused on helping dealers and muni advisors comply with existing rules and taking stock of how tax reform affects market practices.

MSRB chair Lucy Hooper and executive director Lynnette Kelly laid out the MSRB’s 2018 priorities for The Bond Buyer, and a number of other muni market professionals also weighed in on what they expect the regulatory landscape to be in the new year.

“We believe 2018 year will be a watershed year for market structure issues,” said Hooper, who became board chair in October.

Hooper said the board will be issuing separate documents with frequently-asked-questions and answers on its new markup disclosure rule that becomes effective in May, as well as on Rule G-42 on the duties of non-solicitor municipal advisors.

The board has already received approval from the Securities and Exchange Commission to make explicit that dealers acting as placement agents in private placements and direct purchases must obtain CUSIP numbers. MAs also must obtain CUSIP numbers when advising on a competitive transaction of municipal securities. That rule amendment takes effect June 14 of the coming year.

In February, the MSRB expects to complete the comment period for its compliance support initiative, a major board push to assist the market in complying with existing rules after several years of near-constant rulemaking stemming from the Dodd-Frank Act.

Hooper said market participants can expect a number of reports during the new year that strive to address topics that are of interest to the MSRB, such as exchange-traded funds and minimum denomination requirements.

Kelly said the board will continue to propose new rules as appropriate, but is primarily continuing with rules that were already in the pipeline.

In January, the MSRB will file with the SEC a new rule governing muni advisor advertising, as well as an amendment seeking to harmonize existing dealer advertising rules with their Financial Industry Regulatory Authority counterparts.

Both Hooper and Kelly said the MSRB will be monitoring the market’s response to the Republican tax overhaul which, among other changes, eliminates the ability of state and local governments to execute tax-exempt advance refunding deals after Dec. 31.

“We’re going to be studying the impact of tax reform on our market,” said Hooper, noting that it is not yet clear how issuers might respond to losing the tool of advance refunding.

Municipalities could become more reliant on bankers, she said, adding, “We might see issuers participate in more complex swap transactions.”

Kelly said the new tax code would likely affect the MSRB’s own financial picture, and that there will be an evaluation and possible tweaks based on that.

The new year also will mark the ten-year anniversary of the launch of the MSRB’s EMMA system. Kelly said users can expect the addition of new third-party yield curves in the spring. Additionally, there are plans to add an interactive database on political contribution information collected in accordance with the board’s Rule G-37, which governs political contributions made by dealers and muni advisors.

Lawyers and market groups generally said they are anticipating a fairly quiet year in terms of regulation and legislation, but believe the new year will still include plenty of important regulatory developments.

“It’s pretty clear there’s going to be, at least on the rulemaking side, a bit of a pause,” said Ernesto Lanza, a senior counsel at Clark Hill in Washington D.C. He said 2018 could be a year for the MSRB to begin thinking about how it could “smooth out the rough edges” of its still-new muni advisor rules, although Lanza added that it is unlikely that new MA rules or amendments would come out this year.

“The big thing is going to be the implementation of markup disclosure,” said Lanza, adding that he expects “at least one” round of interpretive guidance on the rule, which will require dealers to disclose their markups and markdowns on certain transactions in the confirmations they send retail customers.

Lanza said he is not expecting robust rulemaking o follow from the MSRB’s primary offering practices concept release released in September, which asked the market to weigh in on various aspects of new bond offerings. He also noted the tax law's potential to affect muni market practices, particularly with respect to what alternative financings emerge in response to the end of advance refunding deals.

“If that starts catching, you could see the regulators paying attention,” he said.

Lanza also noted the potential for action from the SEC’s Fixed Income Market Structure Advisory Committee. The new committee was announced in November and officially formed on Nov. 15 for a renewable two-year term. It includes both corporate and muni bond experts, which Lanza said could eventually contribute to the possibility of recommendations to further harmonize muni and corporate bond rules.

Edward Fierro, a senior counsel at Bracewell and former SEC lawyer in its Office of Municipal Securities, said the new year could see SEC action on its proposed amendments to Rule 15c2-12.

Proposed back in March, the SEC’s changes would require an issuer or borrower to file an event notice if they either incur a financial obligation that is material or agrees to covenants, events of default, remedies, priority rights or similar terms "any of which affect securities holders, if material." An event notice also would have to be filed if certain events occur, such as a default or an acceleration of debt under the terms of a financial obligation that reflect financial difficulties.

The SEC defined financial obligations as "a debt obligation, lease, guarantee, derivative instrument or a monetary obligation resulting from a judicial, administrative or arbitration proceeding," a description that many market participants said was too broad.

Fierro said that if the SEC chooses to modify 15c2-12, the final rule will likely be more narrowly-tailored than the proposal. It’s unclear where 15c2-12 is on SEC chairman Jay Clayton’s priorities list relative to other things the SEC is doing, Fierro noted.

Fierro predicted that dealer firms could have trouble managing customer relationships once they are required to start disclosing their markups and markdowns on confirmations, and also expressed a keen interest in what the SEC’s fixed income committee might be up to.

“I’d be very interested in 2018 to see what recommendations come out of this committee,” he said.

Paul Maco, a partner at Bracewell, said he is not sure how likely the regulators might be to grant an extension on the compliance date for markup disclosure – something dealers have indicated would be helpful. An extension “could make sense” if it becomes clear the dealers need more time, he said. There has been hand-wringing in the broker-dealer community about how to effectively automate the process of executing trades and calculating markups or markdowns.

Susan Gaffney, executive director of the National Association of Municipal Advisors, said the implementation of MSRB Rule G-34 will be key for the MA community, as it requires them to acquire CUSIP numbers for some of the deals they advise on. Gaffney said the MA community is also waiting for the MSRB’s proposed advertising rule for MAs.

On Capitol Hill, industry groups have not lost faith that 2018 could potentially be the year to move on legislation for which they have been pushing.

National Association of Bond Lawyers governmental affairs director Jessica Giroux said that her group will be supporting efforts to raise the bank-qualified bond cap and to classify a wider swath of municipal bonds as high quality liquid assets in banking regulations.

“They can be niche items,” Giroux said, “But I don’t think the appetite has gone away.”

H.R. 1624, the bill that would reclassify more munis as HQLA after the market was unhappy with how munis were treated by the Federal Reserve’s definition, has already passed the House and awaits action by the Senate Banking Committee. A related bill, S. 828, also awaits action in that same committee.

“We had a great nod of confidence,” Emily Brock, director of the Government Finance Officers Association’s Federal Liaison Center said of the progress of the HQLA bill. “It leads us to believe there is some promise in it passing.”

Giroux said the tax reform debates over the past several weeks have the potential to raise the profile of municipal market concerns for the new year.

“I think there’s a focus now on the muni market,” she said. “At least the words should be familiar.”

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Securities law SEC MSRB NABL Bracewell