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New SEC Chair May Focus on Municipal Securities

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Elisse Walter has called for pricing transparency in the muni market in the past.

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With the arrival of Elisse Walter as new chair of the Securities and Exchange Commission this year, there is a strong chance the agency's attention will be focused on pricing transparency in the municipal securities market. Unlike equities, pricing information for municipal securities is not as accessible, and regulation has not been as swift.

Walter, who previously served as SEC commissioner for four years, headed efforts to examine municipal securities in July of last year, when the SEC released a report proposing regulatory and legislative reforms. Concern over protecting unsophisticated investors involved in deals that largely benefit the underwriter are increasing now that interest in the municipal securities market continues to grow. The market has gained fresh appeal as "munis" are perceived as less likely to default and considered more valuable than other fixed income assets.

At the Society of American Business and Economics Writers Fall Conference last year, the SEC's Chief Enforcement Officer Peter Khuzami expressed concern over the growing complexity of municipal finance. Khuzami referenced a 2011 case where the SEC accused a brokerage firm, Stifel, Nicolaus & Co., of encouraging five Wisconsin school districts to make risky moves by investing money for employee benefits and borrowing more money.

"School boards may not have the financial sophistication to make these decisions," Khuzami said at the conference. "People are more skeptical but it's a new area of concern for us."

Municipal bonds have generally been seen as safe investments with historically low default rates, but more recently, alarm bells have begun to go off, as cases of issuers taking riskier bets become newsworthy. Municipal bonds are becoming more complex as Wall Street involves derivatives, and more risky, as municipalities continue to face budget challenges.

If the SEC works to make information about municipal security more transparent, it may mirror the regulatory recommendations made in the report. The report recommends the SEC specify the types of disclosure mandated, namely, if players in the municipal securities industry don't divulge information, the report suggests addressing their non-compliance by requiring that issuers have disclosure policies and procedures in place.

Oliver Pursche, president of Gary Goldberg Financial Services, who has worked in the securities industry for more than 20 years, is optimistic that the SEC will tackle those goals, albeit slowly. He is less optimistic that the report's more aggressive legislative proposals will make it onto Congress' agenda this year, or anytime soon.

"It won't happen quickly but I do think they will do more, especially because the appetite is going to continue to run high for municipal securities," Pursche said. "Some rules are easy to enforce, like the pricing information. It's easier to implement than deeper and more meaningful changes."

In order to make significant changes, average investors have to better understand the kinds of investments they're making, and the parties involved have to know that they're keeping up their end of the deal.

"When getting into the type of derivatives and other factors it can get granular. It's important for the individual investor that they know if it's a pooled investment or not," Pursche said.

"You have to look at what each party is doing. When the municipality exaggerates their revenue forecast, they're possibly liable. When someone says something is absolutely safe and they misrepresent the type of bond, then you could sue the issuer," Pursche said. "If it were a 529 plan and the advisor involved was just reading the front covering of an offering recommendation, then that's their fault."

In recent years, the government has tried to make the municipal securities market friendlier to investors. In 2008, the Municipal Securities Rulemaking Board (MSRB) launched the Electronic Municipal Marketplace Access System (EMMA) which provides free public access to offering documents, secondary market disclosure, and real-time price data. In 2010, The Dodd-Frank Act also widened the definition of the MSRB's mission to include the protection of municipal securities issuers, and changed the board's composition so that public members would have a majority of seats. The MSRB then expanded the responsibilities of underwriters to state and local government issuers last year.
No positions in stocks mentioned.
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