The Municipal Securities Rulemaking Board (MSRB) provides these answers to frequently asked questions (FAQs) to enhance market participants’ understanding of permissible and impermissible uses of social media as part of their municipal securities business or municipal advisory activities under MSRB Rule G-21, on advertising by brokers, dealers or municipal securities dealers (collectively, “dealers”), and under MSRB Rule G-40, on advertising by municipal advisors (Rule G-21, together with Rule G-40, the “advertising rules”). These FAQs can assist dealers and municipal advisors (collectively, “regulated entities”) with their compliance with the MSRB’s advertising rules.

In developing these FAQs, the MSRB has been mindful of the potential burden on a regulated entity if there were to be unnecessary inconsistencies between any adopted MSRB social media guidance and similar guidance issued by other regulators that may be applicable to other aspects of the regulated entity’s business. To that end, and to the extent practicable, the MSRB has endeavored to align these FAQs with the social media guidance published by the U.S. Securities and Exchange Commission (SEC) and the Financial Industry Regulatory Authority, Inc. (FINRA).[1]

The FAQs discuss compliance with MSRB rules; regulated entities are reminded that they also may be subject to the rules of other financial regulators, including state regulators. Further, a regulated entity’s use of social media to conduct municipal securities or municipal advisory activities is optional, and the responsibilities that follow from that social media usage are not new here. In particular, a regulated entity should consider its ability to comply with the existing recordkeeping requirements under the federal securities laws and incorporated into MSRB rules when determining whether to use social media to conduct municipal securities or municipal advisory activities and whether to permit its associated persons to use social media to conduct municipal securities or municipal advisory activities.

Background

Rule G-21 and Rule G-40, effective as of the date of these FAQs, set forth general provisions, address professional advertisements by the relevant regulated entity and require principal approval, in writing, for advertisements by regulated entities before their first use.

These FAQs were initially developed in 2019 as a result of requests for guidance regarding the use of social media by a regulated entity under MSRB Rules G-21 and G-40 and were updated thereafter. These FAQs provide the requested guidance.

Consistent with MSRB Rule D-11, references in the FAQs to a dealer, municipal advisor or regulated entity generally include the associated persons of such dealer, municipal advisor or regulated entity.[2]

Use of Social Media

1.     Is social media use by a regulated entity relating to its municipal securities business or municipal advisory activities considered advertising under the MSRB’s advertising rules?

Yes, depending on the facts and circumstances. With limited exceptions, any material that relates to (i) the products or services of the dealer, (ii) the services of the municipal advisor, or (iii) the engagement of a municipal advisory client by the municipal advisor, may constitute an advertisement under the MSRB’s advertising rules, if it is:

• published or used in any electronic or other public media; or
• written or electronic promotional literature distributed or made generally available to either customers or municipal entities, obligated persons, municipal advisory clients or the public.

To the extent that the use of social media, including blogs, microblogs and social and professional networks, by a regulated entity is deemed advertising based on its content and distribution, that advertising would be subject to all applicable provisions of Rules G- 21 and G-40. Those provisions include content standards and a requirement that an advertisement be pre-approved by a principal before its first use.

Further, dealers and municipal advisors should bear in mind that “posts” or “chats” on social media, including those deemed advertising, are subject to all other applicable MSRB rules.

Those rules include:

• MSRB Rule G-17, on conduct of municipal securities and municipal advisory activities;
• MSRB Rule G-27, on supervision;
• MSRB Rule G-44, on supervisory and compliance obligations of municipal advisors;
• MSRB Rule G-8, on books and records to be made by brokers, dealers, municipal securities dealers, and municipal advisors; and
• MSRB Rule G-9, on retention of records.    

2.     Can an associated person’s personal social media use be deemed “advertising” that is subject to the MSRB’s advertising rules?

Potentially, yes. An associated person’s personal social media use would not per se be advertising that is subject to the MSRB’s advertising rules. Whether an associated person’s personal social media use is advertising depends on whether the content of the social media relates to (i) the products or services of the dealer, (ii) the services of the municipal advisor, or (iii) the engagement of a municipal advisory client by the municipal advisor, as relevant.

• For example, an associated person of a regulated entity “posts” the following on his personal social media that is viewable by the public rather than a selected audience:

Let’s help our children! ABC Youth Group is having a car wash to raise funds for a new basketball court on May 18th at 3:00 pm at XYZ address. Get your car washed and help out.

The content in the “post” in the above example does not relate to (i) the products or services of the dealer, (ii) the services of the municipal advisor, or (iii) the engagement of a municipal advisory client by the municipal advisor. Even though the “post” is publicly available, the “post” would not be advertising that is subject to the MSRB’s advertising rules.

Similarly, an associated person may hyperlink from his or her personal social media to content on his or her dealer’s or municipal advisor’s social media. The “hyperlinking” by the associated person to the regulated entity’s social media would not constitute an advertisement if that hyperlinked content does not relate to the matters referenced in the preceding paragraph.[3]

• For example, a “post” from associated person FGH’s personal social media contains a hyperlink to an article on municipal advisor ABC’s website about an animal shelter rebuilding after recent flooding. The “post” is viewable by the public.

The “post” would not be advertising that is subject to the MSRB’s advertising rules. The “post,” although it contains a hyperlink to a regulated entity’s website, links to content that does not relate to the municipal advisory services of the municipal advisor or the engagement of a municipal advisory client by a municipal advisor.

By contrast, to the extent that an associated person of a dealer or municipal advisor engages in advertising, as defined by Rules G-21 and G-40, on his or her personal social media, that advertising would be subject to the requirements of the MSRB’s advertising rules.

• For example, an associated person of ABC municipal advisor posts the following on his or her personal social networking page that is viewable by the general public:

I’m happy to be part of the team! ABC municipal advisor was rated the best in XYZ state for airport financings during 2017 according to DEF rating service. ABC municipal advisor has great experience in airport financings, and can help you with your next project.

The “post” would be an advertisement, as defined in Rule G-40(a)(i). The content of the electronically distributed “post” (i) promotes the expertise and experience of ABC municipal advisor and solicits inquiries about its services and (ii) is generally available to municipal entities, obligated persons, municipal advisory clients or the public. As such, even though the advertisement was “posted” on the associated person’s personal social networking page, the “post” would be subject to the requirements of Rule G-40 as well as all other applicable MSRB rules. See question 1.

3.    Do the MSRB’s advertising rules apply to hyperlinked content on an independent third-party website from a regulated entity’s website?

The MSRB’s advertising rules would apply to hyperlinked content on an independent third-party’s website from a regulated entity’s website in those instances where the regulated entity either:

• involved itself in the preparation of content on that third-party website— this is known as entanglement;[4]; or
• implicitly or explicitly approved or endorsed the content on that third-party website —this is known as adoption.[5]

Accordingly, if a regulated entity either becomes entangled with or adopts the hyperlinked content, the regulated entity has obligations under MSRB’s advertising rules for that content.

• For example, on its website, ABC dealer states that XYZ municipal entity has a great article about the financing for its new school (ABC dealer was the underwriter for that financing), and ABC dealer provides a hyperlink to that article.

In this case, ABC dealer, by stating it was a great article, would have adopted the article on XYZ’s website, and the content of that article would be subject to Rule G-21. Further, depending on the facts and circumstances, ABC may have adopted the article by linking to its specific content even without stating that the article was a great article. See question 4. A regulated entity should consider whether the context of the hyperlink and the content of the hyperlinked information together create a reasonable inference that the regulated entity has approved or endorsed the hyperlinked information.[6]

Similarly, a regulated entity may become entangled with hyperlinked content.

• For example, CDE municipal advisor assists XYZ issuer with the preparation of a press release about a financing to build a new school. The press release discusses how the financing method will save taxpayer dollars, but does not mention CDE municipal advisor. CDE municipal advisor then posts a hyperlink on its website to the press release on XYZ issuer’s website.

In this case, CDE municipal advisor, because it helped prepare the press release, would have become entangled with the press release, and the hyperlinked content would be an advertisement subject to Rule G-40.

See Question 7 for discussion regarding third-party posts.

4.    What factors are relevant for a regulated entity to consider as it determines whether it has adopted the hyperlinked content on an independent third-party’s website?

While non-exclusive, some factors to consider are:[7]

• Does the context suggest that the regulated entity has approved or endorsed the hyperlinked content? The regulated entity may want to consider its disclosure about the hyperlink and what a reader may imply by the location and presentation of the hyperlink. For example:

  • Does the regulated entity state that it approves or endorses the prominently-featured hyperlinked content (in which case, the regulated entity would have adopted the hyperlinked content), or does the regulated entity have a portion of its website that links to recent general news articles and provides hyperlinks to the websites of various newspapers or magazines (depending on the facts and circumstances, in most cases, the regulated entity would not have adopted such content)?[8]

  • Does the hyperlinked content indicate a degree of selective choice by the regulated entity, such as a hyperlink to a specific news article that is laudatory of the regulated entity, as compared to a hyperlink to the website of the newspaper?[9]

  • Does the regulated entity provide an explanation about the source of a hyperlinked article and why the regulated entity is hyperlinking to it in order to avoid the inference that the regulated entity is adopting the hyperlinked content?[10]

  Although a regulated entity’s hyperlink to specific independent third-party content may indicate adoption of that content, if the hyperlinked content itself is not an advertisement, the regulated entity’s hyperlink to that content would not be an advertisement under Rules G-21 and G-40.

  • For example, ABC dealer includes a hyperlink on its website to an article regarding the importance of saving for college on an independent third- party’s website. The article does not identify any particular 529 savings plan, any dealer, or any municipal security.

  In this case, ABC dealer hyperlinks to an article that is purely educational. Because the hyperlinked content does not address ABC dealer or a municipal security offered through ABC dealer, the hyperlinked content would not be an advertisement, and ABC dealer’s hyperlink to that content would not be an advertisement that is subject to Rule G-21.

• Does the hyperlink create customer or municipal advisory client confusion? The regulated entity may want to consider whether a customer or municipal advisory client would be confused and not fully appreciate that the hyperlink is to third-party content. Does the regulated entity provide disclosure to explain that the hyperlink is to third-party content?[11]

• Is the hyperlink to content that is not controlled by the regulated entity and is the hyperlink ongoing? When a regulated entity links to content that is hosted by an independent third-party that is not controlled or influenced by the regulated entity, that content may not be advertising subject to the MSRB’s advertising rules if the hyperlink is “ongoing.”

  An “ongoing” link is one which: (i) is continuously available to visitors to the regulated entity’s website; (ii) visitors to the regulated entity’s site have access to even though the independent third-party site may or may not contain favorable material about the regulated entity; and (iii) visitors to the regulated entity’s website have access to even though the independent third-party’s website may be revised.[12] A regulated entity may not have adopted the content on the independent third-party’s website if the link is “ongoing.”

However, where a regulated entity has become entangled with the hyperlinked content on a third-party website (to the extent that hyperlinked content otherwise meets the definition of an advertisement), that hyperlinked content would be an advertisement under Rules G-21 and G-40 and the regulated entity must consider all applicable provisions of the MSRB’s advertising rules, including with respect to the hyperlinked content.[13] Therefore, a regulated entity should not include hyperlinked content on its website if there are any red flags that indicate that the hyperlinked content contains false or misleading material.[14]

5.    May a regulated entity use a disclaimer alone to disclaim potential MSRB rule violations for hyperlinked content on an independent third-party website?

No, the MSRB generally would not view a disclaimer alone as sufficient to insulate a regulated entity from potential MSRB rule violations related to hyperlinked content on an independent third-party website that the regulated entity knows or has reason to know is materially false or misleading. A regulated entity that hyperlinks to content that the regulated entity knows or has reason to know is materially false or misleading may violate Rules G-17, G-21 and/or G-40.[15]

6.    Do the MSRB’s advertising rules apply to linked content within independent third- party content to which a regulated entity hyperlinked?

No, Rules G-21 and G-40, in general, would not apply to linked content within content to which the regulated entity linked (“secondary links”). However, to avoid triggering the application of Rules G-21 and G-40:

• The regulated entity must not have adopted or become entangled with the content in the secondary link – See question 3;
• The regulated entity must have no influence or control over the content in the secondary links – See question 4;
• The original linked content must not be a mere vehicle for the secondary links or not rely completely on the information available in the secondary links; and

• The regulated entity must not know or have reason to know that the information contained in the secondary links contains any untrue statement of material fact or is otherwise false or misleading.[16] A regulated entity should not include a link on its website if there are any red flags that indicate that the hyperlinked website contains false or misleading content.[17]

Third-Party Posts

7.    Do Rules G-21 and G-40 apply to posts by a customer, municipal entity client or another third-party (collectively, “third-party posts”) on a regulated entity’s or its associated person’s social networking page?

In general, no. Rules G-21 and G-40 generally would not apply to posts by a third-party on a regulated entity’s or its associated person’s social networking page. The post would not be considered material that is published, distributed or made available by the dealer or municipal advisor.

Notwithstanding, Rules G-21 and G-40 may apply to such third-party posts under certain circumstances. For example, Rules G-21 and G-40 would apply to such posts if the dealer or municipal advisor becomes entangled with or adopts the content of such posts. See also question 3.

• Entanglement. A regulated entity becomes entangled with a post by a third-party on the regulated entity’s social networking page if the regulated entity has involved itself with the preparation of the third-party content.[18] For example, a regulated entity or its associated person may become entangled with a third-party post if the regulated entity or its associated person pays for or solicits a third-party to post certain comments on the regulated entity’s social networking page.

• Adoption. A regulated entity adopts the content of the third-party post if the regulated entity explicitly or implicitly approves or endorses the content.[19] A regulated entity or its associated person may adopt a third- party post if it “likes,” “shares,” or otherwise indicates approval or endorsement of the content.

See question 3 above for a discussion of hyperlinked content on an independent third- party website; see question 4 above for a discussion of the non-exclusive factors to consider when determining whether a regulated entity or its associated person has adopted third-party content.

8.    May a municipal advisory client post positive comments about its experience with the municipal advisor on the municipal advisor’s social media page without such post being a testimonial under Rule G-40?

As with question 7 above, if a municipal advisory client posts positive comments on a municipal advisor’s social media page and the municipal advisor does not become entangled with or adopt that content, the municipal advisor could allow such content on its social media page. This would be true even if the municipal advisory client’s comments were to include a testimonial.

If the municipal advisor paid for or solicited a municipal advisory client to post positive comments about its experience with the municipal advisor on the municipal advisor’s social media page, that post would be deemed to be an advertisement by the municipal advisor that contains a testimonial within Rule G-40.

Specifically, by paying for or soliciting positive comments from a third-party, the municipal advisor would become entangled with those comments, and the posting of those third-party comments on the municipal advisor’s social media page would be deemed to be an advertisement by the municipal advisor that contains a testimonial. Accordingly, the municipal advisor would need to ensure that the advertisement meets the requirements of Rule G-40 and that the requisite disclosures under Rule G-40(a)(iv)(G)(2)(b) are clearly and prominently posted to the social media page in close proximity to the testimonial.

If the municipal advisor did not pay, directly or indirectly, for the testimonial, but liked, shared or commented on a post from a third-party, the municipal advisor would have adopted those comments and the posting of those third-party comments on the municipal advisor's social media page would be deemed an advertisement by the municipal advisor that contains a testimonial. Accordingly, the municipal advisor would need to ensure that the advertisement meets the requirements of Rule G-40 and that the requisite disclosures under Rule G-40(a)(iv)(G)(2)(b) are clearly and prominently posted to the social media page in close proximity to the testimonial.

Recordkeeping

9.    Must regulated entities retain records of “posts,” “chats,” text messages or messages sent through messaging applications related to the regulated entity’s business conducted through social media?

Yes, the MSRB’s recordkeeping and record retention requirements apply to all written, including electronic, communications sent or received as well as records of advertisements under the MSRB’s advertising rules.

Specifically, for dealers, Rule G-9(b)(viii)(C) requires that “all written and electronic communications received and sent, including inter-office memoranda, relating to the conduct of the activities of such municipal securities broker or municipal securities dealer with respect to municipal securities” be retained. Similarly, Rule G-9(h)(i) requires that a municipal advisor retain records, which include, among other things, originals or copies of all written and electronic communications received and sent, including inter-office memoranda, relating to municipal advisory activities.[20] Neither the technology used for the communication nor the distinction between a communication made through a device issued by the regulated entity or its associated person’s personal device is determinative for this analysis. See questions 10 and 11 regarding supervision.

Supervision[21]

10.    Should a regulated entity consider establishing policies and procedures as part of its supervisory system to address the use of social media by the regulated entity and its associated persons?

Yes, given that recordkeeping requirements apply to electronic communications, a regulated entity should establish policies and procedures to address the use by the regulated entity and its associated persons of social media.[22] As a baseline, those policies and procedures would reflect the regulated entity’s permitted and/or prohibited practices. Such permitted practices may include restrictions on the use of certain technologies or the prohibition of the use of social media to engage in municipal securities business or municipal advisory activities. Further, the supervisory system for a regulated entity that permits the use of social media would address all applicable MSRB rules, including, but not limited to:

• The MSRB’s advertising rules;
• Rule G-17;
• Rule G-8; and
• Rule G-9.

See question 1.

11.    What are some factors that a regulated entity should consider as it develops policies and procedures about the use of social media?

As with any policy and procedure, a regulated entity’s social media policies and procedures would be tailored to reflect, among other things, its size, organizational structure and the nature and scope of its municipal securities or municipal advisory activities. Social media policies and procedures are not expected to be “one size fits all.”

Among the factors that a regulated entity should consider as it develops social media policies and procedures are:

Usage Restrictions. While some regulated entities may prohibit an associated person from engaging in municipal securities business or municipal advisory activities through social media, other regulated entities may permit the use of social media for such purposes. A regulated entity that permits the use of social media by its associated persons, in whole or in part, should consider providing associated persons with a clear and concise list of permitted social media for the conduct of municipal securities business or municipal advisory activities. That list also may include any restrictions to the use of particular social media (for example, a regulated entity may permit certain messaging applications to be used only for internal communications among the regulated entity and its associated persons). If applicable, a regulated entity should consider making the list of permitted social media widely available and easily accessible to its associated persons.[23]

Further, recognizing the need to have policies and procedures that are reasonably designed to ensure compliance with MSRB rules as well as with other applicable securities laws and regulations, and in light of the pace of technology innovations, a regulated entity that permits the use of social media should consider periodically reviewing its list of permitted social media. As part of that review, the regulated entity should determine whether any updates to the list of permitted social media would be warranted.[24]

Along with the list of permitted social media, the regulated entity should consider addressing the consequences of non-compliance with its social media policies and procedures.[25]

Training and Education. The regulated entity’s social media policies and procedures may address the training that the regulated entity will provide related to those policies and procedures. For example, will the training include an initial training as well as training that is required on a periodic basis? In addition, a regulated entity’s training on social media may address various topics likely to occur such as an explanation of the differences between business and personal social media use and how the lines between business and personal social media usage could be blurred. For example, an associated person could receive a request on his or her personal social media relating to municipal securities business or municipal advisory activities. A regulated entity may want to consider how the associated person should respond to such a request.

Recordkeeping and Record Retention. As noted in question 1, it is possible that social media posts relating to the regulated entity’s municipal securities business or municipal advisory activities would be subject to the MSRB’s recordkeeping and record retention rules. A regulated entity should consider its recordkeeping and record retention obligations as it designs its social media compliance policies and procedures.[26]

Monitoring. As a regulated entity develops its social media policies and procedures, the regulated entity should consider how it will monitor for compliance with those policies and procedures. For example, a regulated entity may determine to more frequently monitor various social media activities based on the potential risks that the regulated entity has determined may be associated with those activities. See question 12 below for a discussion of various factors that the regulated entity may want to consider as it develops its policies and procedures. As a reminder, a regulated entity’s supervisory procedures concerning social media should address not only the MSRB’s advertising rules, but all applicable MSRB rules and other applicable federal securities laws and regulations.

12.    What factors may be important in determining the effectiveness of policies and procedures concerning social media?

As noted in question 10, MSRB Rules G-27 and G-44 generally require that a regulated entity establish, implement and maintain a supervisory system that is reasonably designed to achieve compliance with MSRB rules as well as with other applicable federal securities laws and regulations. To help test whether that goal is being met with regard to its social media compliance policies and procedures, a regulated entity may want to consider the following non-exclusive factors:

• Content standards. A regulated entity should consider whether there are certain risks associated with content created by the regulated entity for its social media and whether that content may create regulatory issues. For example, non-solicitor municipal advisors owe a fiduciary duty to their municipal entity clients. Is the social media content consistent with that duty (e.g., such as content that contains information on specific municipal advisory activity or a recommendation regarding that activity)? Further, if the social media content contains a testimonial, does that content include the requisite disclosures set forth in the MSRB’s advertising rules?
• Monitoring of third-party sites. To the extent that the regulated entity permits the use of social networking sites, a regulated entity should consider how it will monitor for compliance with the regulated entity’s social media policies and procedures on those sites.
• Criteria for approving participation in social networking sites. A regulated entity should consider whether to develop standards relating to social networking participation. For example, at a minimum, a regulated entity must ensure compliance with record retention requirements. As the regulated entity develops its criteria for approving the use of certain sites, the regulated entity also should address whether it has a process in place for revoking approval to participate in a particular social networking site should certain circumstances change.
• Personal social networking sites. A regulated entity should address whether the regulated entity or its associated persons may engage in municipal securities business or municipal advisory activities on personal social networking sites.
• Enterprise-wide sites. A regulated entity that is a part of a larger financial services organization should consider whether it needs to develop usage guidelines reasonably designed to prevent the larger financial services organization in organizational-wide advertisements from violating the MSRB’s advertising rules.

[1] See, e.g., National Examination Risk Alert, Office of Compliance Inspections and Examinations, U.S. Securities and Exchange Commission (Jan. 4, 2012) (“2012 Risk Alert”); Exchange Act Release No. 58288 (Aug. 1, 2008); FINRA Regulatory Notice 17-18 (Apr. 2017); and FINRA Regulatory Notice 19-31 (Sep. 2019). These materials are identified for reference and such reference is not intended to suggest that regulated entities that are not subject to the guidance issued by the SEC or FINRA are responsible for compliance with that guidance. In addition, the MSRB does not intend for the guidance provided by these FAQs to modify or otherwise affect the guidance contained in any of the referenced materials published by the SEC or FINRA.

[2] Rule D-11 provides that:

Unless the context otherwise requires or a rule of the Board otherwise specifically provides, the terms “broker,” “dealer,” “municipal securities broker,” “municipal securities dealer,” “bank dealer,” and “municipal advisor” shall refer to and include their respective associated persons. Unless otherwise specified, persons whose functions are solely clerical or ministerial shall not be considered associated persons for purposes of the Board’s rules.

[3] For example, such hyperlinked content may include information about a charity event sponsored by the dealer or municipal advisor, a human interest article, an employment opportunity, or employer information covered by state and federal fair employment laws. See, e.g., FINRA Regulatory Notice 17-18 (Apr. 2017) at 4.

[4] See, e.g., Exchange Act Release No. 58288 (Aug. 1, 2008) at 32, 73 FR 45862 (Aug. 7. 2008) at 45870 (the “2008 release”); Exchange Act Release No. 42728 (Apr. 28, 2000), 65 FR 25843 (May 4, 2000) at 25848 (the “2000 release”).

[5] Id.

[6] 2008 release at 34.

[7] See 2008 release at 33; 2000 release at 25849.

[8] See 2008 release at 34; 2000 release at 25849.

[9] See 2008 release at 35.

[10] Id.

[11] See 2008 release at 36; 2000 release at 25849.

[12] See FINRA Regulatory Notice 17-18 (Apr. 2017) at 5.

[13] See MSRB Notice 2018-14 (Jun. 27, 2018).

[14] See FINRA Regulatory Notice 11-39 (Aug. 2011) at 3.

[15] See 2008 Release at 36-37; 2000 Release at 25849.

[16] See FINRA Regulatory Notice 17-18 at Q:4; see Q:5.

[17] See FINRA Regulatory Notice 11-39 (Aug. 2011) at 3.

[18] See 2008 release at 32; 2000 release at 25848-49; FINRA Regulatory Notice 10-06 (Jan. 2010) at 7-8. The MSRB’s definition of the entanglement and adoption theories is consistent with the definition of those theories set forth by the SEC and FINRA in those materials.

[19] Id.

[20] Rule G-8(h)(i) requires municipal advisors to make and keep current all books and records described in Rule 15Ba1-8(a) under the Exchange Act. Particularly, Rule 15Ba1- 8(a)(1) requires that municipal advisors make and keep true, accurate, and current “originals or copies of all written communications received, and originals or copies of all written communications sent, by such municipal advisor (including inter-office memoranda and communications) relating to municipal advisory activities, regardless of the format of such communications.”

[21] While many regulated entities may find the guidance in these FAQs useful when establishing their supervisory systems, each regulated entity should develop a supervisory system that is tailored to its own business model, recognizing that some considerations may not apply in the same manner for every firm and others may not apply at all.

[22] In part, Rules G-27(b) and Rule G-44(a) require that a regulated entity establish a supervisory system to supervise the municipal securities and municipal advisory activities of the regulated entity and its associated persons. In general, a supervisory system includes:

1. compliance policies and procedures that describe the practices that associated persons must adhere to in order to meet the standards of conduct established by the regulated entity consistent with applicable securities laws and regulations, including MSRB rules; and
2. written supervisory procedures that describe the practices that the supervisory personnel follow in order to reasonably ensure that associated persons meet the standards of conduct and the regulated entity can evidence a supervisory system.

[23] See, e.g., 2012 Risk Alert at 3; FINRA Regulatory Notice 07-59 (Dec. 2007) at 7.

[24] See, e.g., 2012 Risk Alert at 4.

[25] See FINRA Regulatory Notice 07-59 (Dec.2007) at 7; see also National Exam Program Risk Alert, Observations from Investment Adviser Examinations Relating to Electronic Messaging, Office of Compliance Inspections and Examinations, U.S. Securities and Exchange Commission (modified Dec. 14, 2018) available at https://www.sec.gov/ocie/announcement/ocie-risk-alert-electronic-messaging (“2018 Risk Alert”) at 4.

[26] See FINRA Regulatory Notice 07-59 (Dec. 2007) at 6-7; 2018 Risk Alert at 3-4.

Since 1994, the Municipal Securities Rulemaking Board (“MSRB”) has sought to eliminate pay-to-play practices in the municipal securities market through its Rule G-37, on political contributions and prohibitions on municipal securities business.[1]  Under the rule, certain contributions to elected officials of municipal securities issuers made by brokers, dealers and municipal securities dealers (“dealers”), municipal finance professionals (“MFPs”) associated with dealers, and political action committees (“PACs”) controlled by dealers and their MFPs (“dealer-controlled PACs”)[2] may result in prohibitions on dealers from engaging in municipal securities business with such issuers for a period of two years from the date of any triggering contributions.

Rule G-37 requires dealers to record and disclose certain contributions to issuer officials, state or local political parties, and bond ballot campaigns, as well as other information, on Form G-37 to allow public scrutiny of such contributions and the municipal securities business of a dealer. In addition, dealers and MFPs generally are prohibited from soliciting others (including affiliates of the dealer or any PACs) to make contributions to officials of issuers with which the dealer is engaging or seeking to engage in municipal securities business, or to political parties of a state or locality where the dealer is engaging or seeking to engage in municipal securities business. Dealers and MFPs also are prohibited from circumventing Rule G-37 by direct or indirect actions through any other persons or means.[3]

Due to changes in the financial markets since the adoption of Rule G-37, many dealers and MFPs have become affiliated with a broad range of other entities in increasingly diverse organizational structures.  Some of these affiliated entities (including but not limited to banks, bank holding companies, insurance companies and investment management companies) have formed or otherwise maintain relationships with PACs (“affiliated PACs”) and other political organizations, many of which may make contributions to issuer officials.  Such relationships raise questions regarding the extent to which affiliated PACs may effectively be controlled by dealers or their MFPs and thereby constitute dealer-controlled PACs whose contributions are subject to Rule G-37.  Further, such relationships raise concerns regarding whether the contributions of such affiliated PACs, even if not viewed as dealer-controlled PACs, may be used by dealers or their MFPs to circumvent Rule G-37 as indirect contributions for the purpose of obtaining or retaining municipal securities business.

The MSRB remains concerned that individuals and firms subject to Rule G-37 may seek ways around the rule through payments to and contributions by affiliated PACs that benefit issuer officials. When evaluating whether contributions made by affiliated PACs may be subject to the provisions of Rule G-37, the MSRB emphasizes that dealers should first determine whether such affiliated PAC would be viewed as a dealer-controlled PAC. If an affiliated PAC is determined to be a dealer-controlled PAC, then its contributions to issuer officials would subject the dealer to the ban on municipal securities business and its contributions to issuer officials, state or local political parties, and bond ballot campaigns would be subject to disclosure under Rule G-37. Even if the affiliated PAC is determined not to be a dealer-controlled PAC, the dealer still must consider whether payments made by the dealer or its MFPs to such affiliated PAC could ultimately be viewed as an indirect contribution under Rule G-37(d) if, for example, the affiliated PAC is being used as a conduit for making a contribution to an issuer official.

The MSRB wishes to provide guidance regarding the factors that may result in an affiliated PAC being viewed as controlled by the dealer or an MFP of the dealer and thereby being treated as a dealer-controlled PAC for purposes of Rule G-37. The MSRB also wishes to ensure that the industry is cognizant of prior MSRB guidance regarding the potential for payments to and contributions by affiliated PACs to constitute indirect contributions under the rule.

Indicators of Control by Dealers and MFPs

Soon after adoption of Rule G-37, the MSRB stated that each dealer must determine whether a PAC is dealer controlled, with any PAC of a non-bank dealer assumed to be a dealer-controlled PAC.[4]  The MSRB has also stated that the determination of whether a PAC of a bank dealer[5] is a dealer-controlled PAC would depend upon whether the bank dealer or anyone from the bank dealer department has the ability to direct or cause the direction of the management or the policies of the PAC.[6]  Such ability to direct or cause the direction of the management or the policies of a PAC also would be indicative of control of such PAC by a non-bank dealer or any of its MFPs, although it would not be the exclusive indicator of such control. While this guidance establishes basic principles with regard to making a determination of control, it does not set out an exhaustive list of circumstances under which a PAC may or may not be viewed as dealer or MFP controlled.  The specific facts and circumstances regarding the creation, management, operation and control of a particular PAC must be considered in making a determination of control with respect to such PAC.

Creation of PAC. In general, a dealer or MFP involved in the creation of a PAC would continue to be viewed as controlling such PAC unless and until such dealer or MFP becomes wholly disassociated in any direct or indirect manner with the PAC. Thus, any PAC created by a dealer, acting either in a sole capacity or together with other entities or individuals, would be presumed to be a dealer-controlled PAC.  This presumption continues at least as long as the dealer or any MFP of the dealer retains any formal or informal role in connection with such PAC, regardless of whether such dealer or MFP has the ability to direct or cause the direction of the management or policies of the PAC. This presumption also would continue for so long as any associated person of the dealer (either an individual, whether or not an MFP, or an affiliated company directly or indirectly controlling, controlled by or under common control with the dealer) has the ability to direct or cause the direction of the management or policies of the PAC. In effect, a dealer could not attempt to treat a PAC it created and then spun off to the control of an affiliated company as not being a dealer-controlled PAC. However, depending on the totality of the facts and circumstances, a PAC originally created by a dealer in which the dealer or its MFPs no longer retain any role, and with respect to which any other affiliates retain only very limited non-control roles, could be viewed as no longer controlled by the dealer.

Similarly, a PAC created by any person associated with the dealer at the time the PAC was created, acting either in a sole capacity or together with other entities or individuals, would be presumed to be controlled by such person.  Such presumption continues at least for so long as such person retains any formal or informal role in connection with such PAC, regardless of whether any such person has the ability to direct or cause the direction of the management or policies of the PAC.  This presumption also would continue for so long as any other person associated with the same dealer as the creator of the PAC has the ability to direct or cause the direction of the management or policies of the PAC. Although such PAC may not be viewed as being subject to Rule G-37 as an MFP-controlled PAC when originally created if such person was not then an MFP, if the person creating the PAC, or any other associated person with the ability to direct or cause the direction of the management or policies of such PAC, is or later becomes an MFP, such PAC would be deemed an MFP-controlled PAC.[7]

Management, Funding and Control of PAC. Beyond the role of the dealer, MFP or other person in creating a PAC and maintaining an ongoing association with such PAC, the ability to direct or cause the direction of the management or the policies of a PAC is also important. Strong indicators of management and control are not mitigated by the fact that such dealer, MFP or other person does not have exclusive, predominant or “majority” control of the PAC, its management, its policies, or its decisions with regard to making contributions.  For example, the fact that a dealer or MFP may only have a single vote on a governing board or other decision-making or advisory board or committee of a PAC, and therefore does not have sole power to cause the PAC to take any action, would not obviate the status of such dealer or MFP as having control of the PAC, so long as the dealer or MFP has the ability, alone or in conjunction with other similarly empowered entities or individuals, to direct or cause the direction of the management or the policies of the PAC.  In essence, it is possible for a single PAC to be viewed as controlled by multiple different dealers if the control of such PAC is shared among such dealers, although the presumption of control may be rebutted as described below.

The level of funding provided by dealers and their MFPs to a PAC may also be indicative of control. A PAC that receives a majority of its funding from a single dealer (including the collective contributions of its MFPs and employees) or a single MFP is conclusively presumed to be controlled by such dealer or MFP, regardless of the lack of any of the other indicia of control described in this notice.  Another important factor is the size or frequency of contributions by a dealer or MFP,[8] viewed in light of the size and frequency of contributions made by other contributors not affiliated in any way with such dealer or MFP. For example, a limited number of small contributions freely made by employees of a dealer to an affiliated PAC (i.e., not directed by the dealer and not part of an automated or otherwise dealer-organized program of contributions) would not, by itself, automatically raise a presumption of dealer control so long as the collective contributions by the dealer or its employees is not significant as compared to the total funding of the affiliated PAC, subject to consideration of the other relevant facts and circumstances. In addition, contributions made by a dealer or MFP to an affiliated PAC could raise a stronger inference of de facto dealer or MFP control than when such contributions were made to non-affiliated PACs.

However, even where a dealer or MFP is not viewed as controlling a PAC under the principles described above, dealers should remain mindful of the potential for leveraging the contribution activities of affiliated PACs in soliciting municipal securities business in a way that could raise a presumption of dealer or MFP control.  For example, an MFP’s references to the contributions made by an affiliated PAC during solicitations of municipal securities business could, depending on the facts and circumstances, serve as evidence of coordination of such PAC’s activities with the dealer or MFP that could, together with other facts, be indicative of direct or indirect control of the PAC by such dealer or MFP.  Such control could be found even in circumstances where the dealer or its MFPs have not made contributions to the affiliated PAC.[9]

Of course, the presumptions described above may be rebutted, depending upon the totality of facts and circumstances. Considerations that may serve to rebut such presumptions may include whether the dealer or person creating the PAC:  (i) participates with a broad-based group of other entities and/or individuals in creating the PAC, (ii) at no time undertakes any direct or indirect role (and, in the case of a dealer, no person associated with the dealer undertakes any direct or indirect role) in leading the creation of the PAC or in directing or causing the direction of the management or the policies of the PAC, and/or (iii) provides funding for such PAC (and, in the case of a dealer, its associated persons collectively provide funding for such PAC) that is not substantially greater than the typical funding levels of other participants in the PAC who do not undertake a direct or indirect role in leading the creation of the PAC or in directing or causing the direction of the management or the policies of the PAC.

Indirect Contributions Through Bank PACs or Other Affiliated PACs

As noted above, if an affiliated PAC is determined not to be a dealer-controlled PAC, a dealer must still consider whether payments made by the dealer or its MFPs to such affiliated PAC could be viewed as an indirect contribution that would become subject to Rule G-37 pursuant to section (d) thereof. The MSRB has provided extensive guidance on such indirect contributions, noting in 1996 that, depending on the facts and circumstances, contributions to a non-dealer associated PAC that is soliciting funds for the purpose of supporting a limited number of issuer officials might result in the same prohibition on municipal securities business as would contributions made directly to the issuer official.[10]  The MSRB also noted that dealers should make inquiries of a non-dealer associated PAC that is soliciting contributions in order to ensure that contributions to such a PAC would not be treated as an indirect contribution.[11]

The MSRB also has previously provided guidance in 2005 with regard to supervisory procedures [12] that dealers should have in place in connection with payments to a non-dealer associated PAC or a political party to avoid indirect rule violations of Rule G-37(d).  In such guidance, the MSRB stated that, in order to ensure compliance with Rule G-27(c) as it relates to payments to political parties or PACs and Rule G-37(d), each dealer must adopt, maintain and enforce written supervisory procedures reasonably designed to ensure that neither the dealer nor its MFPs are using payments to political parties or non-dealer controlled PACs to contribute indirectly to an official of an issuer.[13]  Among other things, dealers might seek to establish procedures requiring that, prior to the making of any contribution to a PAC, the dealer undertake certain due diligence inquiries regarding the intended use of such contributions, the motive for making the contribution and whether the contribution was solicited. Further, in order to ensure compliance with Rule G-37(d), dealers could consider establishing certain information barriers between any affiliated PACs and the dealer and its MFPs.[14]  Dealers that have established such information barriers should review their adequacy to ensure that the affiliated entities’ contributions, payments or PAC disbursement decisions are neither influenced by the dealer or its MFPs, nor communicated to the dealers and the MFPs.

The MSRB subsequently noted that the 2005 guidance did not establish an obligation to put in place the specific procedures and information barriers described in the guidance so long as the dealer in fact has and enforces other written supervisory procedures reasonably designed to ensure that the conduct of the dealer and its MFPs are in compliance with Rule G-37(d).[15]  Thus, for example, when information regarding past or planned contributions of an affiliated PAC is or may be available to or known by the dealer or its MFPs, the dealer might establish and enforce written supervisory procedures that prohibit the dealer or MFP from providing information to issuer personnel regarding past or anticipated affiliated PAC contributions.

_______________________________________

[1] Rule G-37 defines municipal securities business as: (i) the purchase of a primary offering of municipal securities from an issuer on other than a competitive bid basis; (ii) the offer or sale of a primary offering of municipal securities on behalf of an issuer; (iii) the provision of financial advisory or consultant services to or on behalf of an issuer with respect to a primary offering of municipal securities in which the dealer was chosen to provide such services on other than a competitive bid basis; or (iv) the provision of remarketing agent services to or on behalf of an issuer with respect to a primary offering of municipal securities in which the dealer was chosen to provide such services on other than a competitive bid basis.

[2] The MSRB has previously stated that the matter of control depends upon whether or not the dealer or the MFP has the ability to direct or cause the direction of the management or policies of the PAC (MSRB Question & Answer No. IV. 24 – Dealer Controlled PAC).

[3] Rule G-37(d) provides that no broker, dealer or municipal securities dealer or any municipal finance professional shall, directly or indirectly, through or by any other person or means, do any act which would result in a violation of sections (b) or (c) of the rule. Section (b) relates to the ban on business and Section (c) relates to the prohibition on soliciting and coordinating contributions.

[4] See Rule G-37 Question & Answer No. IV.24 (May 24, 1994).

[5] MSRB Rule D-8 defines a bank dealer as a municipal securities dealer which is a bank or a separately identifiable department or division of a bank.

[6] See Rule G-37 Question & Answer No. IV.24 (May 24, 1994).

[7] However, a PAC created by an individual acting in his or her formal capacity as an officer, employee, director or other representative of a dealer, regardless of whether such individual is an MFP, would be deemed a dealer-controlled PAC rather than a PAC controlled by the individual.

[8] A dealer or an MFP may make sufficiently large or frequent contributions to a PAC so as to obtain effective control over the PAC, depending on the totality of facts and circumstances.

[9] See Rule G-37 Question & Answer No. III.7 (September 22, 2005) for a discussion of potential indirect contributions through affiliated PACs.

[10] See Rule G-37 Question & Answer No. III.4 (August 6, 1996).

[11] See Rule G-37 Question & Answer No. III.5 (August 6, 1996).

[12] Rule G-27, on supervision, provides in section (c) that each dealer shall adopt, maintain and enforce written supervisory procedures reasonably designed to ensure that the conduct of the municipal securities activities of the dealer and its associated persons are in compliance with MSRB rules.

[13] See Rule G-37 Question & Answer No. III.7 (September 22, 2005).

[14] The potential information barriers described in the guidance include: i) a prohibition on the dealer or MFP from recommending, nominating, appointing or approving the management of affiliated PACs; ii) a prohibition on sharing the affiliated PAC’s meeting agenda, meeting schedule, or meeting minutes; iii) a prohibition on identification of prior affiliated PAC contributions, planned PAC contributions or anticipated PAC contributions; iv) a prohibition on directly providing or coordinating information about prior negotiated municipal securities businesses, solicited municipal securities business, and planned solicitations of municipal securities business; and v) other such information barriers as the firms deems appropriate to monitor conflicting interest and prevent abuses effectively.

[15] See Rule G-37 Interpretive Letter – Supervisory procedures relating to indirect contributions; conference accounts and 527 organizations (December 21, 2006).

The American Recovery and Reinvestment Act of 2009 added a provision to the Internal Revenue Code that authorizes state and local governments to issue two types of “Build America Bonds” as taxable governmental bonds with Federal subsidies for a portion of their borrowing costs.

The first type of Build America Bond provides a Federal subsidy through Federal tax credits to investors in the bonds.  The tax credits may also be “stripped” and sold to other investors, pursuant to regulations to be issued by the Treasury Department.  In its Notice 2009-26, the Treasury Department refers to this type of Build America Bond as “Build America Bonds (Tax Credit).”

The second type of Build America Bond provides a Federal subsidy through a refundable tax credit paid to state or local governmental issuers by the Treasury Department and the Internal Revenue Service.  The Treasury Department refers to this type of Build America Bond as “Build America Bonds (Direct Payment).”  This Notice refers to both Build America Bonds (Tax Credit) and Build America Bonds (Direct Payment) as “Build America Bonds.”

Some municipal market participants have requested guidance on whether Municipal Securities Rulemaking Board rules are applicable to Build America Bonds.  Build America Bonds are municipal securities, because they are issued by States and their political subdivisions and instrumentalities.  Accordingly, all of the MSRB’s rules apply to transactions effected by brokers, dealers, and municipal securities dealers (“dealers”) in Build America Bonds, including rules regarding uniform and fair practice, political contributions, automated clearance and settlement, the payment of MSRB underwriting and transaction assessment fees, and the professional qualifications of registered representatives and principals.

For example, dealers in the primary market should note that current Rule G-36 requires underwriters to submit official statements to the MSRB, accompanied by completed Form G-36 (OS), for most primary offerings of municipal securities.  Dealers also have official statement delivery responsibilities to customers under Rule G-32.  Once final, recently proposed revisions to Rule G-32 will require underwriters to satisfy their official statement submission obligations electronically through use of the MSRB’s Electronic Municipal Market Access system (“EMMA”) and will allow dealers to satisfy their official statement delivery obligations by means of appropriate notice to customers.

The MSRB understands that many Build America Bonds may be sold by dealers’ taxable desks and reminds dealers that Rule G-27 requires that municipal securities principals must supervise all municipal securities activities, including such sales.

Dealers in the secondary market should note that Rule G-14 requires that all transactions in municipal securities must be reported to the MSRB within certain prescribed time periods. 

The following additional types of tax credit bonds are also municipal securities subject to MSRB rules: Recovery Zone Economic Development Bonds, Qualified School Construction Bonds, Clean Renewable Energy Bonds, New Clean Renewable Energy Bonds, Midwestern Tax Credit Bonds, Energy Conservation Bonds, and Qualified Zone Academy Bonds.

As a result of the unprecedented number of “failed  auctions” [1] in municipal Auction Rate Securities (“ARS”) that have occurred this year, many dealers have announced plans to offer to purchase customer positions in municipal ARS at a stated price, typically par (“ARS Buybacks”). These ARS Buyback programs predominantly have occurred pursuant to settlement agreements with state attorneys general. The MSRB has received questions from dealers whether ARS Buybacks must be reported to the MSRB Real-Time Transaction Reporting System (RTRS) and, if so, whether the M9c0 “away from market - other reason” special condition indicator must be included on such trade reports.

MSRB Rule G-14, on transaction reporting, requires all purchase-sale transactions in municipal securities to be reported to RTRS. Transactions in ARS must be reported to RTRS and trade reports of ARS Buybacks must be reported to RTRS without the M9c0 special condition indicator. The primary reason a trade report would be required to include the M9c0 special condition indicator is that the trade report contains information that could be misleading to users of price transparency reports.[2] The MSRB does not believe that trade reports of ARS Buybacks would provide misleading information relating to the market value of ARS because the price at which ARS Buybacks are executed has been publicly announced. Therefore, trade reports of ARS Buybacks as well as of other purchases of ARS from holders at current market prices must be reported without the M9c0 special condition indicator.[3]

[1] A “failed auction” is not an event of default by the issuer, it only relates to the auction process not being able to determine a clearing rate and not permitting investors attempting to sell their securities from being able to do so.

[2] RTRS serves the dual purposes of price transparency and market surveillance. Transactions reported with the M9c0 special condition indicator are entered into the surveillance database but suppressed from price dissemination. The MSRB has identified three specific situations in which the M9c0 special condition indicator is required to be included on trade reports. See Notice of Interpretation of Rule G-14: “Reporting of Transactions in Certain Special Trading Situations: Rule G-14,” dated January 2, 2008.

[3] Users of the MSRB’s price transparency reports produced from RTRS should be aware that ARS Buybacks may result in a higher than normal volume of trade reports in ARS and should not use this volume as an indication that the market for ARS has fully recovered from the unprecedented number of failed auctions that have occurred in 2008. Further, the prices at which ARS Buybacks are executed may not reflect the actual market value for the security.

The MSRB Real-Time Transaction Reporting System (RTRS) serves the dual purposes of price transparency and market surveillance.  Because a comprehensive database of transactions is needed for the surveillance function of RTRS, MSRB Rule G-14, on transaction reporting, with limited exceptions, requires dealers to report all of their purchase-sale transactions to RTRS within fifteen minutes.  All reported transactions are entered into the RTRS surveillance database used by market regulators and enforcement agencies. However, the special nature of some transactions effects their value for price transparency and the ability of dealers to meet the fifteen minute reporting deadline. To address these issues, RTRS was designed so that a dealer can code a specific transaction report with a “special condition indicator” to designate the transaction as being subject to a special condition.[1]

TRANSACTIONS EXECUTED WITH SPECIAL PRICING CONDITIONS

Three trading scenarios recently have generated questions from dealers and users of the MSRB price transparency products.  Each of the three trading scenarios described below represents situations where the transaction executed is not a typical arms-length transaction negotiated in the secondary market and thus may be a misleading indicator of the market value of a security.  To clarify transaction reporting requirements and to prevent publication of a potentially misleading price, dealers are required to report these transactions with the M9c0 special condition indicator.[2] Transactions reported with this special condition indicator are entered into the surveillance database but suppressed from price dissemination to ensure that transparency products do not include prices that might be confusing or misleading.

Customer Repurchase Agreement Transactions

Some dealers have programs allowing customers to finance municipal securities positions with repurchase agreements (“repos”). Typically, a bona fide repo consists of two transactions whereby a dealer will sell securities to a customer and agree to repurchase the securities on a future date at a pre-determined price that will produce an agreed-upon rate of return. Both the sale and purchase transactions resulting from a customer repo do not represent typical arms-length transactions negotiated in the secondary market and are therefore required to be reported with the M9c0 special condition indicator.

UIT-Related Transactions

Dealers sponsoring Unit Investment Trusts (“UIT”) or similar programs sometimes purchase securities through several transactions and deposit such securities into an “accumulation” account. After the accumulation account contains the necessary securities for the UIT, the dealer transfers the securities from the accumulation account into the UIT. Purchases of securities for an accumulation account are presumably done at market value and are required to be reported normally. The transfer of securities out of the accumulation account and into the UIT, however, does not represent a typical arms-length transaction negotiated in the secondary market. Dealers are required to report the subsequent transfer of securities from the accumulation account to the UIT with the M9c0 special condition indicator.

TOB Program-Related Transactions

Dealers sponsoring tender option bond programs (“TOB Programs”) for customers sometimes transfer securities previously sold to a customer into a derivative trust from which derivative products are created. If the customer sells the securities held in the derivative trust, the trust is liquidated and the securities are reconstituted from the derivative products and transferred back to the customer. The transfer of securities into the derivative trust and the transfer of securities back to the customer upon liquidation of the trust do not represent typical arms-length transactions negotiated in the secondary market. Such transactions are required to be reported using the M9c0 special condition indicator.[3]

INTER-DEALER TRANSACTIONS REPORTED “LATE”

Inter-dealer transaction reporting is accomplished by both the purchasing and selling dealers submitting the trade to the Depository Trust and Clearing Corporation’s (DTCC) automated comparison system (RTTM) following DTCC’s procedures. RTTM forwards information about the transaction to RTRS.  The inter-dealer trade processing situations described below are the subject of dealer questions and currently result in dealers being charged with “late” reporting or reporting of a trade date and time that differs from the date and time of trade execution.  To allow dealers to report these types of transactions without receiving a late error and to allow enforcement agencies to identify these trades as reported under special circumstances, the MSRB has added two new special condition indicators.[4] New special condition indicator Mc40 is used to identify certain inter-dealer transactions that are ineligible for comparison on trade date, and new special condition indicator Mc50 is used to identify resubmissions of certain uncompared inter-dealer transactions that have been cancelled by RTTM. Described below are the procedures for reporting transactions arising in three inter-dealer transaction reporting scenarios using the new special condition indicators.

Inter-Dealer Ineligible on Trade Date

Certain inter-dealer transactions are not able to be submitted to RTTM on trade date or with the accurate trade date either because all information necessary for comparison is not available or because the trade date is not a “valid” trade date in RTTM. The two inter-dealer trading scenarios described below are required to be reported using the new Mc40 special condition indicator.

VRDO Ineligible on Trade Date

On occasion, inter-dealer secondary market transactions are effected in variable rate demand obligations (VRDOs) in which the interest rate reset date occurs between trade date and the time of settlement. Since dealers in this scenario cannot calculate accrued interest or final money on trade date, they cannot process the trade through RTTM until the interest rate reset has occurred. To report such transactions, both dealers that are party to the transaction are required to report the transaction by the end of the day that the interest rate reset occurs, including the trade date and time that the original trade was executed. Both dealers are required to include the new Mc40 special condition indicator that causes RTRS not to score either dealer late. Transactions reported using this procedure are disseminated without a special condition indicator and the trade reports reflect the original trade date and time.

Invalid RTTM Trade Dates

Dealers sometimes execute inter-dealer transactions on weekends and on certain holidays that are not valid RTTM trade dates. Such trades cannot be reported to RTRS using the actual trade date if they occur on a weekend or holiday. To accomplish automated comparison and transaction reporting of such transactions, dealers are required to submit these inter-dealer transactions to RTTM no later than fifteen minutes after the start of the next RTRS Business Day and to include a trade date and time that represents the next earliest “valid” values that can be submitted.[5] Dealers also are required to include the new Mc40 special condition indicator that allows RTRS to identify these transactions so that enforcement agencies can be alerted to the fact that the trade reports were made under special circumstances using a special trade date and time. RTRS disseminates these trade reports without a special condition indicator and the trade report includes the trade date and time reflecting the next earliest “valid” values that can be submitted.[6]

Resubmission of an RTTM Cancel

A dealer may submit an inter-dealer trade to RTTM and find that the contra-party fails to report its side of the trade.  Such “uncompared” trades are not disseminated by RTRS on price transparency products.  After two days, RTTM removes the uncompared trade report from its system and the dealer originally submitting the trade must resubmit the transaction in a second attempt to obtain a comparison with its contra-party, which currently results in RTRS scoring the resubmitted trade report “late.”

The dealer that originally submitted information to RTTM is required to resubmit identical information about the transaction in the second attempt to compare and report the trade by the end of the day after RTTM cancels the trade. The resubmitting dealer also is required to include the new Mc50 special condition indicator that causes RTRS to not score the resubmitting dealer late. The indicator may only be used by a dealer resubmitting the exact same trade information for the same trade.[7] For example, the contra-party that failed to submit its side to the trade accurately, thus preventing comparison of the transaction, is not allowed to use the indicator. RTRS disseminates trade reports made under this procedure without a special condition indicator once RTTM compares the trade and the trade report reflects the original trade date and time.

[1] See Specifications for Real-Time Reporting of Municipal Securities Transactions Section 4.3.2.

[2] In addition to the special trading situations identified in this notice, the M9c0 special condition indicator, “away from market – other reason,” is required to be included on a trade report if the transaction price differs substantially from the market price for multiple reasons or for a reason not covered by another special condition indicator.

[3] In some cases, the transfer of securities into the derivative trust and the transfer of securities back to the customer upon liquidation of the trust do not represent purchase-sale transactions due to the terms of the trust agreement.  MSRB rules on transaction reporting do not require a dealer to report a transfer of securities to RTRS that is not a purchase-sale transaction in municipal securities.

[4] See MSRB Notice 2007-25 (August 13, 2007).

[5] The MSRB previously provided an example of a trade date and time that would be included on a trade report using this procedure.  See “Reporting of Inter-Dealer Transactions That Occur Outside of RTRS Business Day Hours or on Invalid RTTM Trade Dates,” MSRB Notice 2007-12 (March 23, 2007).

[6] Using this procedure will result in transactions reported with a trade date and time that differs from what is recorded in a dealer’s books and records.  Dealers are reminded that books and records are required to reflect the date and time of trade execution.

[7] The resubmitting dealer would not be required to resubmit the same reference number or preparation time on the resubmitted transaction; however, other information about the transaction, such as price, quantity, trade date and time, would be required to be identical to information included in the original trade submission.

On January 8, 2007, certain amendments to Rule G-14 concerning the “List  Offering Price/Takedown” indicator became effective. These amendments require the use of the “List Offering Price/Takedown” indicator on primary market sale transactions executed on the first day of trading of a new issue:

• by a sole underwriter, syndicate manager, syndicate member or selling group member at the published list offering price for the security (“List Offering Price Transaction”); or
• by a sole underwriter or syndicate manager to a syndicate or selling group member at a discount from the published list offering price for the security (“RTRS Takedown Transaction”).[1]

Since implementation of the revised “List Offering Price/Takedown” indicator, the MSRB has received several questions concerning the use of the indicator on certain transactions executed by sole underwriters, syndicate managers, syndicate members, or selling group members on the first day of trading in a new issue. These questions relate to whether inter-dealer transactions at a price equal to the “list offering price” are included in the definition of “List Offering Price Transactions.” The MSRB wishes to clarify that inter-dealer transactions are not included in the definition of “List Offering Price Transactions.”[2]

The MSRB has previously clarified that the published list offering price is defined as the “publicly announced ‘initial offering price’ at which a new issue of municipal securities is to be offered to the public.”[3] A large number of sales to investors at the published list price are expected on the first day of trading of a new issue, and these transactions offer relatively little value to real-time transparency. Consequently, the “List Offering Price” exception provides these transactions with an end-of-day exception to the 15-minute deadline. An inter-dealer sale transaction at a price equal to the list offering price, however, does provide useful current market information, since it can be presumed that the security is destined to be redistributed to investors at a price above the published list offering price. Inter-dealer transactions at the list offering price, therefore, are not included in the definition of “List Offering Price Transactions,” and identifying such transactions with the “List Offering Price/Takedown” indicator would violate MSRB Rule G-14.

[1] See Rule G-14 RTRS Procedures (d)(vii). A transaction reported with the “List Offering Price/Takedown” indicator receives an end-of-day exception to the 15-minute reporting deadline.

[2] An inter-dealer transaction may meet the definition of an “RTRS Takedown Transaction” when a sole underwriter or syndicate manager executes a transaction with a syndicate or selling group member at a discount from the published list offering price for the security.

[3] See “Reminder Notice on ‘List Offering Price’ and Three-Hour Exception for Real-Time Transaction Reporting: Rule G-14,” MSRB Notice 2004-40 (December 10, 2004). If the price is not publicly disseminated (e.g., if the security is a “not reoffered” maturity within a serial issue), the transaction is not considered a “List Offering Price Transaction.”

The MSRB reminds dealers of trade reporting procedures with respect to “step outs” and other inter-dealer deliveries that are not the result of inter-dealer transactions.

Rule G-14 requires that inter-dealer purchase-sale transactions eligible for comparison through the National Securities Clearing Corporation (NSCC) automated comparison system (RTTM) be reported to the MSRB Transaction Reporting System. For these inter-dealer transactions, trade reporting to the MSRB is accomplished by both the purchasing and selling dealers submitting the trade for comparison following NSCC’s procedures, and ensuring that the trade record includes certain additional data required by Rule G-14.  NSCC then forwards each dealer’s trade submission to the MSRB. In effect, the comparison submission to NSCC doubles as the trade report to the MSRB.

In certain situations, deliveries of securities occur between two dealers even though the two dealers did not effect a purchase-sale transaction with each other. Dealers using the comparison system to facilitate these deliveries must be careful not to report the deliveries as inter-dealer transactions. A frequent example of this situation occurs when an independent investment advisor effects a transaction with a dealer (the “executing dealer”) and instructs the executing dealer to deliver securities to another dealer (the “custody dealer”) for unnamed clients of the investment advisor. The resulting delivery between the executing dealer and the custody dealer may be handled through NSCC by submitting the delivery to RTTM for comparison, even though there was no purchase-sale transaction between the two dealers. However, in these cases, the executing dealer and the custody dealer each must indicate that the submissions are for RTTM Matching Only (Destination 01, see below) to ensure that the submissions do not also constitute trade reports under Rule G-14. Failure to do so by either party will result in a violation of Rule G-14.[1]

NSCC has published procedures for identifying comparison submissions as step outs, meaning comparison submissions that do not represent reportable inter-dealer transactions.[2] Although the full procedures are not repeated here, they basically require dealers using interactive messaging to submit data to NSCC with “DEST 01” (and no other “DEST”) in the destination indicator message field and dealers using RTTM Web to select the “RTTM” trade reporting indicator.[3] To avoid violations of Rule G-14, dealers also should be careful to use NSCC’s step out procedures only when applicable (i.e., when there is an inter-dealer delivery being compared, but there was no purchase-sale transaction between the dealers).[4]

It is worth noting that comparison submissions will compare against each other in RTTM regardless of whether their step out indicators match. When two dealers submit “mismatched” destination indicators and a comparison occurs, NSCC forwards data about both submissions to the MSRB, but the MSRB is unable to determine which dealer was correct as to whether the comparison represents a transaction or a step out. However, it is clear in such a case that at least one of the dealers has violated Rule G-14, either by reporting a true inter-dealer trade as a step out or by reporting an inter-dealer transaction that did not occur.

Questions about the procedure for processing step out deliveries should be directed to NSCC. Questions about whether a particular type of delivery is reportable as an inter-dealer purchase-sale transaction may be directed to MSRB staff.

[1] In this example, the executing dealer has an additional duty to report its execution of the investment advisor’s order to the MSRB as a dealer sale to a customer; the submission of the “step out” delivery to NSCC does not substitute for this customer trade report. See MSRB Notice 2003-20, “Notice on Reporting and Comparison of Certain Transactions Effected by Investment Advisors: Rules G-12(f) and G-14,” May 23, 2003.

[2] For NSCC’s complete procedure on comparing step out deliveries, see e.g., NSCC Important Notice A5943/P&S5513, “Changes to Municipal Bond ‘Step Out’ Processing,” December 2, 2004, on www.nscc.com.

[3] To further distinguish step out submissions, dealers also should include “STEP” in the Trader ID contra party field.

[4] Another example of a transfer of securities between dealers that is not the result of a purchase-sale transaction was described in MSRB Notice 2004-14, “Notice on Certain Inter-Dealer Transfers of Municipal Securities: Rules G-12(f) and G-14,” June 4, 2004.

Executive Summary

The Municipal Securities Rulemaking Board (“MSRB”) reminds brokers, dealers and municipal securities dealers (collectively “dealers”) of the need to report municipal securities transactions accurately and to minimize the submission of modifications and cancellations to the Real-Time Transaction Reporting System (“RTRS”). Each transaction initially should be reported correctly to RTRS. Thereafter, only changes necessary to achieve accurate and complete transaction reporting should be submitted to RTRS. Changes should be rare since properly reported transactions should not need to be corrected.

* * *

Under Rule G-14, dealers are required to report all transactions to the MSRB and to report accurately and completely the information specified in the Rule G-14 RTRS Procedures (“Procedures”). Trades that are reported with errors affect the accuracy of the information published in price transparency reports as well as the audit trail information retained in the surveillance database.[1]

Dealers should not change trade reports when the transaction attribute that changes is not required to be reported by MSRB or NSCC. For example, if only the account representative associated with a transaction changes, the report to the MSRB should not be changed, as this information is not required to be reported to the MSRB under Rule G-14. Dealers should take care that, if a modification or cancellation is submitted that is not responding to an RTRS error message, the dealer is correcting or cancelling an erroneous report.[7]

RTRS counts the number of modifications and cancellations submitted by each dealer. The MSRB provides statistics to the NASD and other enforcement agencies that measure dealer performance in modifying and cancelling transactions, as well as error rates of original submissions. Dealers that excessively modify or cancel trade reports will have above-average rates in these statistical reports. Dealers therefore should change trade reports only when appropriate to attain accurate and complete reporting under Rule G-14 and the Procedures.

Dealers can monitor their reporting of transactions in compliance with Rule G-14 in several ways. The MSRB currently provides information to dealers about their reporting performance. Any error detected by RTRS is reported back to the submitter by electronic message and is shown to the submitter and the executing dealer on the RTRS Web screen.[8] RTRS also sends e-mail error messages to dealers on request. The RTRS Web screen lists all trades cancelled by the dealer, under its Advanced Search feature. In addition, beginning in March 2005, the MSRB plans to make available to dealers the same statistics provided to the enforcement agencies, in a report entitled “G-12(f)/G-14 Compliance Data from RTRS.” This will be available monthly on the first Monday after the 15th of the month. A dealer’s report will include its statistics for the most recent full month and for the previous month.[9] It will also include summary statistics for the municipal securities industry so that the dealer can compare its performance to the industry’s. Further information about how a dealer can obtain its compliance statistics will be posted in March on the MSRB web site, www.msrb.org.

[1] Transactions reported to the MSRB are made available to the NASD and other regulators for their market surveillance and enforcement activities

[2] See, e.g., “Reminder Regarding MSRB Rule G-14 Transaction Reporting Requirements” (March 3, 2003) on www.msrb.org.

[3] See Rule G-14 RTRS Procedures paragraph (a)(iv) and  “Reminder Regarding Accuracy of Information Submitted to the MSRB Transaction Reporting System: Rule G-14” (February 10, 2004) on www.msrb.org.

[4] Messages which indicate a trade report is “unsatisfactory” and which have an error code beginning with “U” require that the trade be modified or that it be cancelled and replaced. See “Specifications for Real-time Reporting of Municipal Securities Transactions,” especially the table and text after the table in section 2.9. This document is on www.msrb.org.

[5] Changes to inter-dealer trades are governed also by National Securities Clearing Corporation (“NSCC”) rules. See, e.g., “Interactive Messaging: NSCC Participant Specifications for Matching Input and Output” on www.nscc.com.

[6] Modification is preferred when changes are necessary because a modification is counted as a single change to a trade report. A cancellation and resubmission are counted as a change and (unless the resubmission is done within the original deadline for reporting the trade) also a late report of a trade. Methods for cancelling and modifying reports are described in Sections 1.3.3 and 2.9 of “Specifications for Real-time Reporting of Municipal Securities Transactions: Version 1.2” on www.msrb.org.

[7] Note that the MSRB does not require a dealer to report a change to the settlement date of a trade in  when-issued securities, if that is the only change.

[8] See “Real-Time Transaction Reporting Web User Manual” on www.msrb.org.

[9] The first report, planned for March 21, 2005, will include statistics only for February, since RTRS went into operation on January 31, 2005.

The MSRB has become aware of problems in transaction reporting as a result of dealers "bunching" certain inter-dealer transactions in the comparison system.  Recently, some dealers have reported the sum of two trades as one transaction in instances when two dealers effected two trades with each other in the same issue and at the same price.  When two transactions are effected, two transactions should be reflected in each dealer's books and records and two transactions are required to be reported to the MSRB.  The time of trade for each transaction also must accurately reflect the time at which a contractual commitment was formed for each quantity of securities.  For example, if Dealer A purchases $50,000 of a municipal issue at a price of par from Dealer B at 11:00 am and then purchases an additional $50,000 at par from Dealer B at 2:00 pm, two transactions are required to be reflected on each dealers' books and records and two transactions are required to be reported to the MSRB. 

Since the same inter-dealer trade record submitted for automated comparison under Rule G-12(f) also is used to satisfy the requirements of Rule G-14, on transaction reporting, each inter-dealer transaction should be submitted for automated comparison separately in order to comply with Rule G-14's requirement to report all transactions.  Failure to do so causes erroneous information concerning transaction size and time of trade to appear in the transparency reports published by the MSRB as well as in the audit trail used by regulators and enforcement agencies.  To the extent that dealers use the records generated by the comparison system for purposes of complying with MSRB Rule G-8, on recordkeeping, it may also create erroneous information as to the size of transactions effected or time of trade execution.

In recent months, the MSRB has received a number of questions relating to certain kinds of transactions in which independent investment advisors instruct selling dealers to make deliveries to other dealers.  This notice addresses questions that have been raised relating to Rule G-12(f)(i), on automated comparison, and Rule G-14, on transaction reporting.  It describes existing requirements that follow from the language of the rules and does not set forth any new policies or procedures.

An independent investment advisor purchasing securities from one dealer sometimes instructs that dealer to make delivery of the securities to other dealers where the investment advisor's clients have accounts.  The identities of individual account holders typically are not given.[1] The dealers receiving the deliveries in these cases generally are providing "wrap fee" or similar types of accounts that allow investors to use independent investment advisors to manage their municipal securities portfolios. In these kinds of arrangements, the investment advisor chosen by the account holder may be picked from a list of advisors approved by the dealer; however, dealers offering these accounts have indicated that the investment advisor acts independently in effecting transactions for the client's municipal securities portfolio.

The following example illustrates the situation. An Investment Advisor purchases a $1 million block of municipal bonds from the Selling Dealer and instructs the Selling Dealer to deliver $300,000 of the bonds to Dealer X and $700,000 to Dealer Y. The Investment Advisor does not give the Selling Dealer the individual client accounts at Dealer X and Dealer Y to which the bonds will be allocated and there is no contact between the Selling Dealer and Dealers X and Y at the time of trade. The Investment Advisor, however, later informs Dealer X and Dealer Y to expect the delivery from the Selling Dealer, and gives the identity and quantity of securities that will be delivered, the final monies, and the individual account allocations. For example, the Investment Advisor may instruct Dealer X to allocate its $300,000 delivery by placing $100,000 in John Doe's account and $200,000 in Mary Smith's account. 

With respect to transaction reporting requirements in this situation, the Selling Dealer should report a $1 million sale to a customer.  No other dealer should report a transaction.  The comparison system should not be used for the inter-dealer transfers between the Selling Dealer and Dealers X and Y because this would cause them to be reported as inter-dealer trades. 

Frequently Asked Questions

One frequently asked question in the context of the above example is whether the transfers of the $300,000 and $700,000 blocks by the Selling Dealer to Dealer X and Dealer Y should be reported as inter-dealer transactions.  Another question is whether these transfers may be accomplished by submitting them to the automated comparison system for inter-dealer transactions.  Based on the information that has been provided to the MSRB, these transfers do not appear to represent inter-dealer trades and thus should not be reported under Rule G-14 or compared under Rule G-12(f)(i) using the current central comparison system. 

One reason for the conclusion that no inter-dealer trade exists is that municipal securities professionals for firms in the roles of Dealer X and Y have stated that the Investment Advisor is acting independently and is not acting as their agent when effecting the trade with the Selling Dealer.  In support of this assertion, they note that they often are not informed of the transaction or the deliveries that they should expect until well after the trade has been effected by the Investment Advisor.  They also note that the actions of the Investment Advisor are not subject to their control or supervision.  Thus, the $300,000 and $700,000 inter-dealer transfers in the above example appear to be simply deliveries made in accordance with a contract made by, and the instructions given by, the Investment Advisor.  The inter-dealer transfers thus do not constitute inter-dealer transactions.

Because Rule G-14 transaction reporting of inter-dealer trades is accomplished through the central comparison system, any dealer submitting the $300,000 and $700,000 inter-dealer transfers to the comparison system is in effect reporting inter-dealer transactions that did not occur.  In addition, this practice tends to drive down comparison rates and the overall performance of dealers in the automated comparison system.  As noted above, the trading desks of Dealer X and Dealer Y generally do not know about the Investment Advisor's transaction at the time of trade.  They consequently cannot submit comparison information to the system unless the Investment Advisor provides them with the trade details in a timely, accurate and complete manner.  Since the Investment Advisor is acting independently and is not supervised by municipal securities professionals at Dealer X and Dealer Y, there is no means for the municipal securities professionals at Dealer X and Dealer Y to ensure that this happens.

Questions also have been received on whether the individual allocations to investor accounts (e.g., the $100,000 and $200,000 allocations to the accounts of John Doe and Mary Smith in the example above) should be reported under Rule G-14 as customer transactions.  Even though the dealer housing these accounts obviously has important obligations to the investor with respect to receiving deliveries, paying the Selling Dealer for the securities, and processing the allocations under the instructions of the Investment Advisor, it does not appear that the dealer entered into a purchase or sale contract with the investor and thus nothing is reportable under Rule G-14.  This conclusion again is based upon statements by dealers providing the "wrap fee" and similar accounts, who indicate that the investment advisor acts independently and not as the dealer's agent when it effects the original block transaction and when it makes allocation decisions. 

For purposes of price transparency, the only transaction to be reported in the above example is a single $1 million sale to a customer.  This is appropriate because the only market price to be reported is the one set between the Selling Dealer and the Investment Advisor for the $1 million block of securities.  It is appropriate that the $300,000 and $700,000 inter-dealer transfers, and the $100,000 or $200,000 investor allocations are not disseminated as transactions since they would have to be reported using the price for the $1 million block.  This could be misleading in that market for $1 million round lots are often different than market prices for smaller transaction sizes.

[1] The Daily Report is available by subscription at no cost. Currently, "frequently traded" securities are those that traded two or more times during a trading day. As noted below, inter-dealer transactions must be compared on trade date to be eligible for this report.

[2] The MSRB also publishes a "Daily Comprehensive Report," providing details of all municipal securities transactions that were effected during the trading day one week earlier. The Daily Comprehensive Report is available by subscription for $2,000 per year. Along with trades in issues that are not "frequently traded," this report includes transactions reported to the MSRB late, inter-dealer trades compared after trade date, and transaction data corrected by dealers after trade date.

[3] A dealer may call the MSRB at (703) 797-6600 and ask to speak with a Transaction Reporting Assistant who can check to see if its firm is signed up for this free service.

[4] A complete description of the service is available at www.msrb.org in the Municipal Price Reporting / Transaction Reporting System section. NASD also has informed dealers of this service in "Municipal Transaction Reporting Compliance Information," Regulatory and Compliance Alert (Summer 2002).

[5] Under NSCC procedures, no buy-side trade report should be submitted for comparison against a syndicate "takedown" trade submitted by the syndicate manager. Syndicate transactions are "one-sided submissions" and compare automatically after being submitted by the syndicate manager. Paragraph (a) (ii) of Rule G-14 procedures thus requires that only the syndicate manager submit the trade.

[6] The EBS statistics reflect the aggregate number of such errors found in transaction data submitted by a particular NSCC member firm for itself and/or for its correspondents. This statistic cannot be generated individually for each correspondent because the EBS needed to identify the correspondent is itself missing or invalid. EBS statistics only measure the validity of the input the submitter provides to identify its own side of the trade and do not measure the accuracy with which a dealer uses EBSs to identify its contra-parties.

[7] In 1994, the MSRB stated that, "introducing brokers share the responsibility for complying with [Rule G-12(f)] with their clearing brokers. Introducing brokers who fail to submit transaction information in a timely and accurate manner could subject either or both parties to enforcement action for violating [Rule G-12(f)]." See "Enforcement Initiative," MSRB Reports, Vol. 14, No. 3 (June 1994) at 35. NASD has since reiterated this policy; see the following articles in Regulatory and Compliance Alert: "Introducing Firm Responsibility When Reporting Municipal Trades Through Service Bureaus and Clearing Firms" (Winter 2000) and "Municipal Securities Transaction Reporting Compliance Information" (Spring 2001).

[8] As explained above, one of the problems often associated with stamped advisories is that the EBS on transaction records may be missing or inaccurate. Since a clearing broker may have many correspondents, stamping an advisory can make it impossible for market regulators to know which correspondent actually effected the trade.

[9] Of course, if the initial information reported to the MSRB, such as total par value, is changed, the trade record must be amended to make it correct.

The Municipal Securities Rulemaking Board (the “MSRB”) understands that, over time, the advent of new trading systems will present novel situations in applying MSRB uniform practice rules. The MSRB is prepared to provide interpretative guidance in these situations as they arise, and, if necessary, implement formal rule interpretations or rule changes to provide clarity or prevent unintended results in novel situations. The MSRB has been asked to provide guidance on the application of certain of its rules to transactions effected on a proposed electronic trading system with features similar to those described below.

Description of System

The system is an electronic trading system offering a variety of trading services and operated by an entity registered as a dealer under the Securities Exchange Act of 1934. The system is qualified as an alternative trading system under Regulation ATS. Trading in the system is limited to brokers, dealers and municipal securities dealers (“dealers”). Purchase and sale contracts are created in the system through various types of electronic communications via the system, including acceptance of priced offers, a bid-wanted process, and through negotiation by system participants with each other. System rules govern how the bid/offer process is conducted and otherwise govern how contracts are formed between buyers and sellers.

Participants are, or may be, anonymous during the bid/offer/negotiation process. After a sales contract is formed, the system immediately sends an electronic communication to the buyer and seller, noting the transaction details as well as the identity of the contra-party. The transaction is then sent by the buyer and seller to a registered securities clearing agency for comparison and is settled without involvement of the system operator.

The system operator does not take a position in the securities traded on the system, even for clearance purposes. Dealers trading on the system are required by system rules to clear and settle transactions directly with each other even though the parties do not know each other at the time the sale contract is formed. If a dealer using the system does not wish to do business with another specific contra-party using the system, it may direct the system operator to adjust the system so that contracts with that contra-party cannot be formed through the system.

Application of Certain Uniform Practice Rules to System

It appears to the MSRB that the dealer operating the system is effecting agency transactions for dealer clients.[1] The system operator does not have a role in clearing the transactions and is not taking principal positions in the securities being traded. However, the system operator is participating in the transactions at key points by providing anonymity to buyers and sellers during the formation of contracts and by setting system rules for the formation of contracts. Consequently, all MSRB rules generally applicable to inter-dealer transactions would apply except to the extent that such rules explicitly, or by context, are limited to principal transactions.

Automated Comparison

One issue raised by the description of the system above is the planned method of clearance and settlement. Rule G-12(f)(i) requires that inter-dealer transactions be compared in an automated comparison system operated by a clearing corporation registered with the Securities and Exchange Commission. The purpose of rule G-12(f)(i) is to facilitate clearance and settlement of inter-dealer transactions. In this case, the system operator: (i) electronically communicates the transaction details to the buyer and seller; (ii) requires the buyer and seller to compare the transaction directly with each other in a registered securities clearing corporation; and (iii) is not otherwise involved in clearing or settling the transaction. The MSRB believes that under these circumstances, it is unnecessary for the system operator to obtain a separate comparison of its agency transactions with the buyer and seller.

Although automated comparison is not required between the system operator and the buyer and seller, the transaction details sent to each party by the system must conform to the information requirements for inter-dealer confirmations contained in rule G-12(c). Since system participants implicitly agree to receive this information in electronic form by participating in the system, a paper confirmation is not necessary. Also, the system operator may have an agreement with its participants that participants are not required to confirm the transactions back to the system operator, which normally would be required by rule G-12(c).

The system operator, which is subject to Regulation ATS, will be governed by the recordkeeping requirements of Regulation ATS for purposes of transaction records, including municipal securities transactions. However, the system operator also must comply with any applicable recordkeeping requirements in rule G-8(f), which relate to records specific to effecting municipal securities transactions. With respect to recordkeeping by dealers using the system, the specific procedures associated with this system require that transactions be recorded as principal transactions directly between buyer and seller, with notations of the fact that the transactions were effected through the system.

Transaction Reporting

Rule G-14 requires inter-dealer transactions to be reported to the MSRB for the purposes of price transparency, market surveillance and fee assessment. The mechanism for reporting inter-dealer transactions is through National Securities Clearing Corporation (“NSCC”). In the system described above, the buyer and seller clear and settle transactions directly as principals with each other, and without the involvement of the dealer operating the system. The buyer and seller therefore will report transactions directly to NSCC. No transaction or pricing information will be lost if the system operator does not report the transaction. Consequently, it is not necessary for the system operator separately to report the transactions to the MSRB.

March 26, 2001

The Securities and Exchange Commission has approved the National Securities Clearing Corporation's ("NSCC") proposed rule change (SR-NSCC-00-13) regarding the submission of trade data for comparison of fixed income inter-dealer transactions.[1]  NSCC proposes to offer its members the ability to submit their fixed income transaction information "locked-in" through Qualified Special Representatives ("QSR") for trades executed via an Alternative Trading System ("ATS").  Locked-in QSR trade data submission currently is only available for transactions in equity securities.  The Municipal Securities Rulemaking Board ("MSRB") is publishing this notice to clarify the requirements of MSRB rules G-12(f) and G-14 as they pertain to the submission of locked-in transactions.   

To accomplish a locked-in QSR submission, NSCC members on each side of a trade must have executed, or clear for a firm that executed, their trade through an ATS and previously authorized a specific NSCC-authorized QSR to submit locked-in trades to NSCC on their behalf.  The locked-in transaction records are not compared in the traditional manner through the two-sided NSCC comparison process.  Instead, the QSR itself takes responsibility to ensure that the trade data is correct and the parties have agreed to the trade according to the stated terms.  Once NSCC receives a locked-in trade, it treats it as compared so that the transaction can proceed to netting or other automated settlement procedures. 

MSRB rule G-12(f) on inter-dealer comparison and rule G-14 on Transaction Reporting Procedures each refer to the NSCC comparison process for inter-dealer transactions in municipal securities.  These rules require dealers to submit their inter-dealer trade data to NSCC for purposes of comparison and for forwarding to the MSRB for trade-reporting purposes.  Questions may arise as to whether the submission of trade data already locked-in by a QSR complies with these rules.  

NSCC's proposal requires that a QSR must obtain authorization to submit locked-in transactions both from NSCC as well as from the NSCC members who wish to use the QSR for locked-in trade submission.  Given this fact, and the fact that both rules G-12(f) and G-14 specifically contemplate the use of intermediaries in submitting data to NSCC and to the MSRB, locked-in trades submitted under NSCC's program will comply both with rule G-12(f) and rule G-14.

1. Q: When is the inter-dealer time of trade reporting requirement effective?

A: The amendment to the rule G-14 transaction reporting procedures requiring the submission of time of trade execution for inter-dealer transactions became effective on July 1, 1996.

2. Q: What is the purpose of submitting the time of trade to the Board?

A: The Board's Transaction Reporting Program has two functions - public dissemination of price and volume information about frequently traded securities and the maintenance of a surveillance database to assist regulators in inspection for compliance with, and enforcement of, Board rules and securities laws. The surveillance database includes, among other things, the price and volume of each reported transaction, the trade date, the identification of the security traded, and the parties to the trade. The addition of the time of trade execution will enable the enforcement agencies to construct audit trails of inter-dealer transactions. When customer transactions are added to the system in 1998, these transaction records also will include time of trade. Time of trade will not be made public.

3. Q: How is time of trade reported?

A: Under rule G-14, inter-dealer transaction information is reported to the Municipal Securities Rulemaking Board using the same system used for automated comparison of inter-dealer transactions, operated by National Securities Clearing Corporation. Rule G-14 requires that the transaction information be submitted in the format specified by NSCC, and within such timeframe as required by NSCC to produce a compared trade for the transaction in the initial comparison cycle on the night of trade date. A broker, dealer or municipal securities dealer may employ an agent that is a member of NSCC or a registered clearing agency for the purpose of submitting transaction information. For example, the clearing broker generally reports transactions to the MSRB through NSCC when there is an introducing/clearing broker arrangement.

Under the new amendment to rule G-14, the transaction information submitted in accordance with the rule G-14 procedures must include the time of trade execution. NSCC has provided a space designated for this purpose in the standard format used for submitting trade data into the automated comparison system.

4. Q: Which dealer in an inter-dealer transaction reports the time of trade?

A: Under NSCC's automated comparison procedures, both sides of a transaction generally are required to submit transaction information. Therefore, time of trade will be reported by each side of the transaction in most cases. For "syndicate take-down" transactions, which are reported by only the seller, the time of trade is reported only by the seller.

5. Q: If the time of trade that I submit does not agree with the time of trade that the contra party submits, will this cause the trade not to compare?

A: No. The time of trade is not a match item in the automated comparison system.

6. Q: Why do both sides to the transaction have to submit the time of trade?

A: In some cases, even though both sides of a transaction are supposed to submit transaction information, the Board receives transaction information from only one party to a transaction. This may occur, for example, when a dealer "stamps an advisory" to create a compared trade. It therefore is necessary for each side of a transaction to report the time of trade to ensure that the surveillance data base has at least one report of the time of trade.

7. Q: Does the time of trade reporting requirement apply only to secondary market transactions?

A: No. The time of trade is required for all inter-dealer transactions including those in the primary market.

8. Q: How does a dealer determine the time of trade for transactions?

A: In general, this is the same time as the "time of execution," as currently required for recordkeeping purposes under rule G-8(a)(vi) and (vii).

9. Q: What is the time of trade for syndicate allocations on new issues?

A: First it should be noted that the "initial trade date" for an issue of municipal securities cannot precede the date of award (for competitive issues) or the date that the bond purchase agreement is signed (for negotiated issues). See rule G-34(a)(ii)(C)(2) and MSRB Interpretations of April 30, 1982, MSRB Manual and October 7, 1982, MSRB Manual. Similarly, the time of trade may not precede the time of award (for competitive issues) or the time that the bond purchase agreement is signed (for negotiated issues). In the typical case involving a competitive issue in which allocations are made after the date of award, the time of trade execution is the time that the allocation is made. If allocations have been "preassigned," prior to a competitive award, or prior to the signing of a bond purchase agreement, the time of award or signing of the bond purchase agreement should be entered as the "time of trade."

Associated person on issuer governing body. This will respond to your letter to the Municipal Securities Rulemaking Board concerning rule G-22 on disclosure of control relationships. You ask whether the rule requires a dealer to disclose to customers that an associated person of the dealer is a member of a five-person town council that issued the securities.

Rule G-22(c) states that a dealer may not effect a customer transaction in a municipal security with respect to which the dealer has a control relationship, unless the dealer discloses to the customer the nature of the control relationship prior to executing the transaction. Section (a) of rule G-22 defines a control relationship to exist with respect to a security if the dealer controls, is controlled by, or is under common control with the issuer of the security. This includes any control relationship with an associated person of the dealer.1 Whether a control relationship exists in a particular case is a factual question. The Board, however, previously has stated that:

A control relationship with respect to a municipal security does not necessarily exist if an associated person of a securities professional is a member of the governing body or acts as an officer of the issuer of the security. However, if the associated person in fact controls the issuer, rule G-22 does apply. For example, rule G-22 applies if the associated person is the chairman of an issuing authority and, in that capacity, actually makes the decision on behalf of the issuing authority to issue securities. The rule does not apply if the associated person as chairman does not make that decision and does not have the authority alone to make the decision, or if the decision is made by a governing body of which he is only one of several members.2

MSRB interpretation of June 25, 1987.

1 Rule D-11 states that references to “brokers”, “dealers”, “municipal securities dealers”, and “municipal securities brokers” also mean associated persons, unless the context indicates otherwise.

2 Notice of Approval of Fair Practice Rules, October 24, 1978, at 6.

Rule D-9 codifies, as a definitional rule of general application, the definition of the term “customer” presently set forth in various Board rules. Employees and other associated persons of brokers, dealers and municipal securities dealers would, under this definition, be “customers” with respect to transactions effected for their personal accounts. An issuer would be a “customer” within the meaning of the rule except in the case of a sale by it of a new issue of its securities.