Request for Comment on Codifying Time of Trade Disclosure Obligation

The Municipal Securities Rulemaking Board (“MSRB”) is seeking comment on a proposed rule (the “proposed rule”) that would codify the time of trade disclosure obligation of brokers, dealers, and municipal securities dealers (“dealers”) currently described in interpretive guidance to MSRB Rule G-17.  The rule provides that, in the conduct of its municipal securities activities, each dealer must deal fairly with all persons and may not engage in any deceptive, dishonest or unfair practice.  The MSRB has interpreted Rule G-17 to require a dealer, in connection with a municipal securities transaction, to disclose to its customer, at or prior to the time of trade, all material information about the transaction known by the dealer, as well as material information about the security that is reasonably accessible to the market (“time of trade disclosure obligation”).  Over the course of a number of years, the MSRB has issued interpretive guidance discussing this time of trade disclosure obligation in general, as well as in specific scenarios such as in connection with transactions involving new or non-standard products or features.  Proposed Rule G-47 would codify the principles from these interpretive notices without changing the time of trade disclosure obligation.

Comments should be submitted no later than March 12, 2013, and may be submitted in electronic or paper form.  Comments may be submitted electronically by clicking here.  Comments submitted in paper form should be sent to Ronald W. Smith, Corporate Secretary, Municipal Securities Rulemaking Board, 1900 Duke Street, Suite 600, Alexandria, VA 22314.  All comments will be available for public inspection on the MSRB’s website.[1]

Questions about this notice should be directed to Lawrence P. Sandor, Deputy General Counsel, Regulatory Support, or Darlene Brown, Assistant General Counsel, at 703-797-6600.

BACKGROUND

The MSRB is conducting a review of Rule G-17, a principles-based rule, which has been expanded upon through numerous interpretive notices and interpretive letters.  The MSRB has examined its interpretive guidance[2] related to the time of trade disclosure obligation and is proposing to consolidate this guidance by codifying it into a new time of trade disclosure rule.[3]  Market participants have expressed concern regarding the difficulty of reviewing years of interpretive guidance to determine current obligations, and consolidating this guidance into rule language would ease the burden on dealers and other market participants who endeavor to understand, comply with and enforce the time of trade disclosure obligation.

PROPOSED RULE

The codification of the interpretive guidance into a rule is not intended to substantively change the time of trade disclosure obligation.[4]  Rather, the codification is an effort to consolidate the current obligations into one easy to follow rule.  The structure of the proposed rule (rule language followed by supplementary material) is the same structure used by FINRA and other self-regulatory organizations (“SROs”).[5]  The MSRB intends to follow this new structure for all of its rules going forward, in order to streamline the rules, harmonize the format with that of other SROs, and make the rules more flexible and easier for dealers and municipal advisors to understand and follow. 

CURRENT INTERPRETIVE GUIDANCE

The MSRB has identified three interpretive notices that would be superseded in their entirety by the proposed rule and the MSRB proposes deleting these three notices.[6]  The remaining interpretive notices and interpretive letters cover the time of trade disclosure obligation as well as other topics and, therefore, will remain intact at this time.

REQUEST FOR COMMENT

The MSRB is requesting comment from the industry and other interested parties on the proposed rule set forth below.  Specifically, the MSRB requests that commenters address the following questions:

1. Will the proposed codification of existing guidance impose any particular burden on dealers or provide any material benefit to dealers?
2. Will the proposed new rule format impose any particular burden on dealers or provide any material benefit to dealers?

February 11, 2013

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TEXT OF PROPOSED RULE

Rule G-47: Time of Trade Disclosure

(a) No broker, dealer, or municipal securities dealer shall sell a municipal security to a customer, or purchase a municipal security from a customer, whether unsolicited or recommended, and whether in a primary offering or secondary market transaction, without disclosing to the customer, orally or in writing, at or prior to the time of trade, all material information known about the transaction, as well as material information about the security that is reasonably accessible to the market.

(b) Definitions. 

(i) “Established industry sources” shall include the MSRB’s Electronic Municipal Market Access (“EMMA”®) system, rating agency reports, and other sources of information relating to municipal securities transactions generally used by brokers, dealers, and municipal securities dealers that effect transactions in the type of municipal securities at issue.

(ii) “Material information”: Information is considered to be material if there is a substantial likelihood that the information would be considered important or significant by a reasonable investor in making an investment decision.

(iii) “Reasonably accessible to the market” shall mean that the information is made available publicly through established industry sources.

---Supplementary Material:  

.01 Manner and Scope of Disclosure.

a. The disclosure obligation includes a duty to give a customer a complete description of the security, including a description of the features that likely would be considered significant by a reasonable investor, and facts that are material to assessing the potential risks of the investment.

b. The public availability of material information through EMMA, or other established industry sources, does not relieve brokers, dealers, and municipal securities dealers of their obligation to make the required time of trade disclosures to a customer.

c. A broker, dealer, or municipal securities dealer may not satisfy its disclosure obligation by directing a customer to an established industry source or through disclosure in general advertising materials. 

.02 Electronic Trading Systems.  Brokers, dealers, and municipal securities dealers operating electronic trading or brokerage systems have the same time of trade disclosure obligations as other brokers, dealers, and municipal securities dealers. 

.03 Disclosure Obligations in Specific Scenarios.  The following examples describe information that may be material in specific scenarios and require time of trade disclosures to a customer.  This list is not exhaustive and other information may be material to a customer in these and other scenarios. 

a. Variable rate demand obligations.  A description of the basis on which periodic interest rate resets are determined and the role of the remarketing agent. 

b. Auction rate securities.  Features of the auction process that likely would be considered significant by a reasonable investor and the basis on which periodic interest rate resets are determined.  Additional facts that may also be considered material are the duration of the interest rate reset period, information on how the “all hold” and maximum rates are determined, any recent auction failures, and other features of the security found in the official documents of the issue. 

c. Credit risks and ratings.  The credit rating or lack thereof, credit rating changes, credit risk of the municipal security, and any underlying credit rating or lack thereof.

d. Credit or liquidity enhanced securities.  The identity of any credit enhancer or liquidity provider, terms of the credit facility or liquidity facility, and the credit rating of the credit provider or liquidity provider, including potential rating actions (e.g., downgrade).

e. Insured securities.  The fact that a security has been insured or arrangements for insurance have been initiated, the credit rating of the insurance company, and information about potential rating actions with respect to the bond insurance company. 

f. Original issue discount bonds.  The fact that a security bears an original issue discount since it may affect the tax treatment of a municipal security. 

g. Securities sold below the minimum denomination.  Selling to a customer a quantity of municipal securities below the minimum denomination.  Brokers, dealers, and municipal securities dealers are also required to disclose the potential adverse effect on liquidity of a customer position below the minimum denomination.  See also Rule G-15(f). 

h. Securities with non-standard features.  Any non-standard feature of a municipal security.  Additionally, if price/yield calculations are affected by anomalies due to a non-standard feature, this also may be material information about the transaction that must be disclosed to the customer. 

i. Bonds that prepay principal.  The fact that the security prepays principal and the amount of unpaid principal that will be delivered on the transaction. 

j. Callable securities.  The fact that a municipal security may be redeemed prior to maturity in-whole, in-part, or in extraordinary circumstances, including sinking fund calls and bonds subject to detachable call features.  

k. Put option and tender option bonds.  Information concerning the put option or tender option features.  

l. Stripped coupon securities.  Facts concerning the underlying securities which materially affect the stripped coupon instruments.  The unusual nature of these securities and their tax treatment warrants special efforts to provide written disclosures. 

m. The investment of bond proceeds.  Information on the investment of bond proceeds. 

n. Issuer’s Intent to Prerefund.  An issuer’s intent to prerefund an issue. 

o. Failure to make continuing disclosure filings.  Discovery that an issuer has failed to make filings required under its continuing disclosure agreements. 

.04 Processes and Procedures.  Brokers, dealers, and municipal securities dealers must implement processes and procedures reasonably designed to ensure that material information regarding municipal securities is disseminated to registered representatives who are engaged in sales to and purchases from a customer.

[1]  Comments are posted on the MSRB website without change.  Personal identifying information such as name, address, telephone number, or email address, will not be edited from submissions.  Therefore, commenters should submit only information that they wish to make available publicly.