Congress Punts and the MSRB Takes a Knee
As has been often noted, the Dodd-Frank Act is in many respects a Congressional punt. Needing to appear proactive in response to the financial crisis, Congress passes a flawed bill which leaves most of the difficult decision-making to administrative agencies, and in the case of municipal securities, kicks the ball to the Municipal Securities Rulemaking Board (“MSRB”).
For its part, the MSRB catches the ball — but instead of running, it takes a knee.
The Dodd-Frank Act requires the MSRB to promulgate rules protecting municipal entities. On August 2nd, the MSRB submitted to the SEC a proposed interpretive notice which would apply MSRB Rule G-17 to underwriters of municipal securities. Rule G-17 provides: “In the conduct of its municipal securities or municipal advisory activities, each broker, dealer, municipal securities dealer, and municipal advisor shall deal fairly with all persons and shall not engage in any deceptive, dishonest, or unfair practice.”
On its face, the proposed interpretive notice appears straight
forward: all representations must be truthful, disclose all material risks and conflicts of interest, and have a reasonable basis. In addition, new issue pricing must be fair and reasonable. The potentially problematic provision appears in the required disclosures to issuers section addressing complex products, which provides:
If the underwriter does not reasonably believe that the official to whom the disclosures are addressed is capable of independently evaluating the disclosures, the underwriter must make additional efforts reasonably designed to inform the official or its employees or agent.
The unanswered questions abound: How will an underwriter’s reasonable belief be measured? How can an underwriter determine whether a government official is capable of making an independent evaluation? What sort of additional efforts will an underwriter be required to take?
In the comments section of the proposed interpretive notice the MSRB tries to elucidate, but ends up only raising more questions than it answers. It states that the above-quoted language is based on the suitability analysis required by the Financial Industry Regulatory Authority of dealers selling complex products. But it immediately qualifies that guidance, specifically stating that the proposed interpretive notice “does not go so far as to impose a suitability requirement on underwriters of municipal securities with respect to issuers.”
Perhaps the goal posts need to be moved closer.