By Daniel Wolfe
On November 3, 2014, the Securities and Exchange Commission (SEC) brought sanctions against 13 firms for improperly selling Puerto Rico municipal bonds. The violations stem from a relatively new rule entitled Municipal Securities Rulemaking Board (MSRB) Rule G-15(f), which has established what’s called a “minimum denomination requirement” that must be followed when selling municipal bonds.
The minimum denomination requirement sets a threshold on the number of bonds dealers may sell in a single transaction to a single investor. The rule is not an upper limit, but a rather a lower limit meaning that the rule prevents dealers from selling below a certain threshold of bonds.
The requirement is designed to deter retail investors from purchasing risky, “junk” bonds because retail investors typically purchase securities in small amounts. Thus, by implementing a threshold above which retail purchasers would not typically buy, and preventing dealers from selling below that threshold, the rule reduces the likelihood that retail investors will purchase these bonds. Consequently, the only purchasers who would be buying above this threshold would be those purchasers who have the capacity to make larger investments and therefore bear a higher risk.
In early 2014, the Commonwealth of Puerto Rico set a $100,000 minimum denomination requirement on a $3.5 billion dollar offering of municipal “junk” bonds in accordance with MSRB Rule G-15(f). An SEC investigation revealed that on 66 separate occasions, dealers sold these Puerto Rico bonds below the $100,000 minimum. Not only did this violate Rule G-15(f), but the SEC orders also reveal a violation of Section 15(B)(c)(1) of the Securities Exchange Act of 1934 that basically prohibits the violation of any MSRB rule.
The 13 firms responsible for these improper sales include the following: Charles Schwab & Co., Hapoalim Securities USA, Interactive Brokers LLC, Investment Professionals Inc., J.P. Morgan Securities, Lebenthal & Co., National Securities Corporation, Oppenheimer & Co., Riedl First Securities Co. of Kansas, Stifel Nicolaus & Co., TD Ameritrade, UBS Financial Services, and Wedbush Securities.
Although not explicitly admitting blame, each firm agreed to settle the charges by paying penalties between $54,000 (Hapoalim Securities USA) and $130,000 (Riedl First Securities Co. of Kansas).
The SEC has not completed its investigation as of yet. Joseph Chimienti, Sue Curtin, Heidi M. Mitza, Jonathon Wilcox, and Kathleen B. Shields are behind the investigation.