Recently, both the Securities and Exchange Commission (the “SEC”) and the Financial Industry Regulatory Authority (“FINRA”) have taken steps to promote greater transparency in the U.S. fixed income markets. FINRA now publicly disseminates Rule 144A transaction data in corporate debt securities. In addition, SEC Chair Mary Jo White discussed the SEC’s plans to enhance disclosure in fixed income markets.
FINRA dissemination of Rule 144A transaction data
Rule 144A provides a safe harbor from the securities registration requirements of Section 5 of the Securities Act of 1933 (the “Securities Act”) for resales of restricted securities, including corporate debt securities, to large institutions referred to as qualified institutional buyers or QIBs. Rule 144A is frequently used as a means of effecting private placements by dealers acting as initial purchasers. Last year, pursuant to the Jumpstart Our Business Startups Act (the “JOBS Act”), the SEC lifted the prohibition against general solicitation and advertising in Rule 144A transactions. In light of this change, FINRA decided that bringing some post-trade price transparency to Rule 144A corporate debt transactions was appropriate.
Rule 144A corporate debt transactions were previously required to be reported to FINRA through its Trade Reporting and Compliance Engine (“TRACE”) regulatory database but they were exempt from public dissemination protocols. However, commencing June 30, 2014, Rule 144A transactions that are reported to TRACE are disseminated subject to the same dissemination standards that have been in effect for non-Rule 144A transactions involving the same types of securities. A US$5 million dissemination cap for investment-grade corporate bonds applies to both Rule 144A and non-Rule 144A transactions and a US$1 million dissemination cap applies to both Rule 144A and non-Rule 144A high-yield corporate bonds.
The public dissemination of Rule 144A transactions is significant in the debt market, as Rule 144A transactions account for a significant portion of the volume in corporate debt securities. According to FINRA, in the first quarter of 2014, Rule 144A transactions made up nearly 13 percent of the average daily volume in investment-grade corporate debt and nearly 30 percent of the average daily volume in high-yield corporate debt. Rule 144A transactions comprised nearly 20 percent of the average daily volume in the corporate debt market as a whole.
SEC initiatives in fixed income markets
This FINRA change came on the heels of SEC Chair White’s remarks to the Economic Club of New York in which she stated that she is currently working with other market regulators to determine how to use technology to make bond trading and prices clearer for investors. She said that she has asked her staff to focus on an initiative to expand the public availability of pre-trade pricing data in the fixed income markets, especially with respect to smaller, retail-size orders. This initiative would require the public distribution of the best prices generated by alternative trading systems and other electronic dealer networks in the corporate and municipal bond markets, which would increase accessibility of pricing data to the investing public.
Chair White also stated that the SEC will be working closely with the Municipal Securities Rulemaking Board (the “MSRB”) as it finalizes a best execution rule for the municipal securities market, and with FINRA and the MSRB as they work together to provide practical guidance on how brokers can effectively achieve best execution for fixed income securities. She stated that the development of a workable best execution rule for both the corporate and municipal bond markets is vital for the protection of investors and enhancing price competition.
In addition, Chair White noted that in order for investors to better understand the costs of their fixed income transactions, the SEC also plans on working with FINRA and the MSRB in their efforts to develop rules regarding the disclosure of markups in riskless principal transactions for both corporate and municipal bonds. This information will help investors assess the reasonableness of their dealer’s compensation and reduce overcharging.
In light of these remarks, we should expect futures changes by the SEC, FINRA and the MSRB designed to promote transparency and best execution in the fixed income markets.