Muni regulator pursues rule to increase price transparency

MSRB proposal modeled on Finra's for equity and fixed-income markets; 'promote market competition and efficiency'

Mar 12, 2014 @ 12:01 am

By Mark Schoeff Jr.

As a new study shows that hidden costs make municipal bonds more expensive for retail investors than corporate bonds, the industry regulator is poised to make moves that it hopes will bring more transparency to the market.

On Tuesday, the S&P Dow Jones Indices released a report that found a hidden transaction cost of 1.73% built into muni-bond markups.

The transaction cost of investment-grade corporate bonds was 0.87%.

The Wall Street Journal was the first to report the findings.

The $3.671 trillion muni-bond market increasingly is made up of retail investors who are trying to cut through the murky atmosphere when making purchases.

“The issue du jour is price transparency,” said Andrew Kintzinger, a partner at Hunton & Williams. “The market is opaque.”

The Municipal Securities Rulemaking Board is trying to address that problem with a rule that would require for the first time that muni securities dealers seek the best execution prices for retail investors. The rule is designed to promote market competition and efficiency.

“Everything we do boils down to that fundamental fairness, to ensure the retail investor gets a fair price,” said MSRB executive director Lynette Kelly.

The best-execution rule, which is modeled on a similar Financial Industry Regulatory Authority Inc. rule for equity and fixed-income markets, was proposed Feb. 19. The deadline for public comments is March 21.

(See also: MSRB to follow Finra regarding suitability rules)

When the MSRB put out a concept release on the proposal last year, it received criticism from some financial firms, who said that the idea was unworkable because of the stark liquidity differences between muni and equity markets.

In an Oct. 7 letter on the concept proposal, Wells Fargo Advisors said that the MSRB should keep in place its present rule, which calls for firms to offer fair and reasonable prices.

“A more prescriptive best-execution rule could slow down the execution process in many municipal securities,” wrote Robert J. McCarthy, director of regulatory policy at Wells Fargo Advisors. “The 'best execution' requirements may cause dealers to delay execution of a municipal security at a fair market value to fulfill the Finra rule's multifactor 'reasonable diligence' analysis.”

Despite the certainty of industry push-back, the prospects for the rule are good, according to Mr. Kintzinger.

“The MSRB has been aggressive in taking on the topics of price transparency and disclosure in the market,” he said. “Investment advisers and brokers are going to want to keep a real focus on what the MSRB is proposing.”

Rules proposed by the MSRB, a self-regulatory organization whose board comprises public and industry representatives, must be approved by the Securities and Exchange Commission.

There will probably be modifications to the best-execution rule along the way because if underwriters must give the best price to investors and a fair and reasonable price to issuers, both groups could be hurt, said Nathan Howard, an attorney at Affinity Law Group.

“What it ultimately looks like at the end of the day is hard to say,” Mr. Howard said.

“There will be some best execution,” he said. “We won't see the MSRB walking away from it.”

In addition to the price transparency rule, the MSRB also has plans to upgrade its Electronic Municipal Markets Access website. By the end of April, the regulator will add a feature that allows users to more easily find and compare prices for municipal securities with similar characteristics, such as geography or credit ratings.

The MSRB also soon will put out a concept release to add a centralized transparency platform to the website that would provide pre- and post-trade information on muni bonds.

“We have this transparent website which is unprecedented in the securities markets,” Ms. Kelly said. “It's incredibly exciting.”

For momentum to be sustained, the SEC also will have to be on board. In July 2012, the SEC released a report containing several recommendations to improve muni-market structure and disclosure.

“I don't think municipal securities rule making is going to be at the top of the [SEC] agenda,” said Hester Peirce, a senior research fellow at the Mercatus Center at George Mason University.

“They just have other priorities right now,” he said. “They haven't devoted many regulatory resources to municipal securities.”

The SEC didn't respond to a request for comment.


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