It comes as no surprise to those who understand markets that the less liquid a product is, the more its price will decline in a fast market rout. This has happened over the last few days in the municipal bond market.
It’s well known in muniland that retail investors, who buy smaller lots of bonds than institutional buyers, get hit with high markups. The rule is that dealers must deal “fairly” with investors. Translation: Markups to customers cannot exceed 5 percent. So if a dealer sells a bond worth $5,000, he may not charge the client more than a $250 markup. However, there is no regulatory requirement for the dealer to tell the client how much the bond has been marked up; just that it was marked up. Many believe these differences in bond prices are excessive, but no one has figured out a way to reduce or stop the practice.
Several professionals in muniland have jumped on SEC Commissioner Dan Gallagher for his recent warnings about the possibility of an “Armageddon” for retail investors in muniland.
There is a glaring gap in regulation – called Regulation Fair Disclosure – when it comes to protecting municipal bond investors. It appears that issuers may be in the habit of giving material nonpublic information to preferred institutional investors, while making retail and non-preferred investors sit out in the cold. Exhibit number one is the treatment of media members who have petitioned to attend the City of Philadelphia bond investor day scheduled for this Thursday. The Philadelphia Inquirer wrote:
The Bond Buyer is holding its 2nd Annual Symposium on Distressed Municipalities in Providence, Rhode Island on March 18-19. Though I am not there, some conference attendees have done a great job of tweeting the highlights. Here is a selection as the conference continues into its second day:
The debate surrounding the sacred cow of municipal bond tax exemption is reaching new heights. In a recent report from the National League of Cities, estimates by SIFMA (the dealer trade group) show that municipal governments would have paid an additional $173 billion in interest over 10 years with a 28 percent cap on municipal bond tax exemption. And if Congress had fully repealed the municipal bond tax exemption, municipal issuers would have paid an additional $495 billion in interest costs over the last 10 years. These amounts would be on top of the $1.09 trillion in interest paid on municipal bonds in the last 10 years under the current law.