Make way for new muniland disclosure and market structure

The SEC released its long-awaited report on muniland disclosure and price transparency yesterday. Ten years from now, every retail investor will want to say a word of thanks to Commissioner Elisse Walter, even if only half her recommendations on transparency and investor protection are implemented. Unfortunately, her term as SEC commissioner expires June 5, 2013, which leaves her less than a year to get the ball rolling on her proposals.

The report is composed of two primary areas: The first part concerns better disclosures by municipal bond issuers about their finances, and the second addresses the market structure for trading municipal bonds. It’s the second part that contains the really game-changing parts of the report.

On disclosure, the report recommends institutional changes, such as the requirement that muniland participants adopt the standards of the Government Accounting Standards Board and make timely and audited financial disclosures. The report recommends that conduit borrowers (think non-public entities like non-profit hospitals and private colleges) be subject to the same registration and disclosure standards as corporate securities and barred from using exemptions that municipal issuers rely on. Conduit issuers happen to have the highest incidence of defaults, and investors need the greatest level of disclosure for these securities.

On market structure, Walter’s proposals attempt to fill a void, as there is almost no regulation in the muniland secondary market. Dealers usually push retail-size orders to alternative trading systems like Bonddesk, the MuniCenter or Tradeweb Retail. The report recommends that the rules be changed to require these systems to publicly disseminate the bid-offer prices for securities they have on their platforms. Furthermore, the report proposes that the MSRB could compile the bid-offer prices across these alternative trading systems into a quote feed, making the systems more like equity markets. That would be a giant step forward for the municipal markets. Here is the regulatory version:

Although there have been improvements in the availability of pricing information about completed trades (i.e., post-trade information), the secondary market for municipal securities remains opaque. Investors have very limited access to information regarding which market participants would be interested in buying or selling a municipal security, and at what prices (i.e., pre-trade information).

Muniland: the big picture (part 2)

Last week I wrote about the size of the municipal bond market and the kinds of investors who are involved in it. This week I thought it would be helpful to explain how municipal bonds are traded.

Most people understand that stocks are traded on exchanges but bonds aren’t. Although bonds could easily trade on an exchange (the New York Stock Exchange already has a setup to do just that), they currently trade “over-the-counter,” meaning that brokers contact each other and trade bonds between them.

This method of trading between dealers can happen on a phone call or fax, through the messaging system of a Bloomberg terminal or through an aggregator platform. These aggregator platforms are very common for fixed-income trading. The SEC publishes an updated list of trading platforms, which are known as “alternative trading systems” (ATS). The regulatory oversight of ATS is very limited when compared with exchange oversight, and they are not required to publish their rulebooks as exchanges are.

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