Potential Conflicts of Interest For Municipal Bond Underwriters

There are many potential conflicts of interest that may come into play when engaging in the underwriting of municipal securities. Some of these require only that they be disclosed. Other more potentially serious types of conflicts require that the underwriter take certain actions to ensure that purchasers of the securities are not adversely affected.

Acting As a Financial Advisor to the Issuer

Broker dealers will often provide advice to state and local municipalities for a fee.  Broker dealers who act as a financial advisor to issuers of municipal securities will provide guidance as to the timing and structure of potential offerings and other financial matters.  Any investor, who purchases a new municipal issue from a broker dealer with a financial advisory relationship with the issuer, must be informed of the relationship in writing prior to the completion of the transaction. While underwriters will advise issuers on the timing and structure of issues, as well as other financial matters, this does not create a financial advisory relationship. A financial advisory relationship is contractual in nature and must be in writing. The contract will include:

  • The terms under which fees will be paid
  • Services to be provided by the broker dealer
  • Use of broker dealer’s services
  • Use of services offered by a control party or by a party controlled by the broker dealer

Information Obtained While Acting As a Fiduciary 

A broker dealer acting in a fiduciary capacity may not use the information obtained in the furtherance of their duties for their own benefit. A municipal securities dealer, acting as a financial advisor to the issuer of municipal securities, may not use the information it obtains regarding current bondholders to solicit business from them. Examples of fiduciary capacities are:

  • Financial Advisor
  • Transfer Agent
  • Paying Agent
  • Indenture Trustee
  • Clearing Agent
  • Correspondent for Another Dealer
  • Registrar
  • Safekeeping Agent

Acting as a Financial Advisor and Underwriter

When a firm acts as both the financial advisor and underwriter to an issuer, potential conflicts of interest arise. The Municipal Securities Rule Making Board or MSRB has set strict rules regarding these situations. The MSRB requires:

  • The nature of the financial advisory relationship to be disclosed.
  • The amount of the compensation received by the member to be disclosed.
  • That prior to entering into a negotiated underwriting, the firm must receive the issuer’s consent and must inform the issuer of the potential conflicts and must terminate the advisory relationship.
  • The issuer must acknowledge the receipt of the information relating to the conflicts, in writing.
  • That prior to submitting a bid for a competitive underwriting the broker dealer must receive the issuer’s approval.
  • That in the event the broker dealer acts as an underwriter, that all purchasers be informed of the financial advisory relationship.

 

MUNICIPAL BOND TRADING

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