Investors and Market Participants Cited Limitations of Continuing Disclosures

Many market participants told us that primary market disclosure for  municipal securities investors is generally useful. Investors and Market Participants Most Commonly Cited Timeliness, Frequency, and Completeness as Disclosure Limitations

Many market participants told us primary market disclosure is generally  useful for investors and EMMA has improved investor and market  participants’ ability to access disclosure documents, but investors and  market participants have identified limitations to disclosure. Completeness—Investors and other market participants said that  issuers do not always provide all of the financial information, event  notices, or other information they agreed to provide in a continuing  disclosure agreement for the lifetime of a security. Specifically, in June 2010, SEC amended Rule 15c2-12 and issued  interpretive guidance to  specify that event notices be submitted to EMMA in a timely manner  not in excess of 10 business days of the occurrence of the underlying  event, rather than merely “in a timely manner” as was previously  required;  remove the general materiality condition for determining whether  notice of an event is to be submitted to EMMA—thereby, requiring  that notification be provided for certain events when they occur  regardless of whether they are determined to be material (including  principal and interest payment delinquencies, and unscheduled draws  on debt service reserves reflecting financial difficulties, among  others), while adding separately a materiality condition to select  events (including nonpayment-related defaults and bond calls);  increase the number of events for which notice must be provided;  remove an exemption from reporting disclosure information for certain  variable-rate securities; and  reaffirm its previous interpretation that underwriters must form a  reasonable belief in the accuracy and completeness of  representations made by issuers or other obligated persons in  disclosures as a basis for recommending the securities, including  making a reasonable determination that the issuer will likely provide  the continuing disclosure information it agreed to provide. Effect of Limitations of Disclosure Regulations on Individual Investors Largely Is Unknown

The risk posed to investors by the limitations of disclosure regulations  cited by market participants is largely unknown because (1) there is  limited information about the extent to which investors use disclosures to  make investment decisions, (2) there is limited information about the  extent to which disclosure limitations about which investors were  concerned actually have occurred, and (3) there is a low incidence of  defaults and other characteristics of the municipal market that mitigate  investor risk. Some of the  options would require statutory changes while others could be achieved  within existing statutory authority. Some Options Identified to Improve Disclosure Would Require Statutory Changes

Experts and market participant groups we surveyed suggested some  options to improve disclosure that would require statutory changes. While  many suggested repealing the Tower Amendment, regulators said it  would have no effect on what they could require issuers to disclose. SEC  staff said the Securities Act exempts municipal issuers from SEC  registration requirements. Some experts believe that repealing these  provisions would allow federal regulators to directly require issuers to  provide continuing disclosures, and thereby address concerns about  incomplete submissions or failures to meet obligations under continuing  disclosure agreements, but SEC and MSRB staff did not agree and said  additional changes would be needed for them to directly regulate issuers. As noted previously, the Tower Amendment prohibits SEC and MSRB  from requiring state and local governments to file presale information with  them in connection with the issuance, sale, or distribution of municipal  securities. SEC and  MSRB staff agreed that repealing the Tower Amendment would remove a  prohibition on requiring issuers to file presale information. MSRB does not otherwise  have affirmative authority to regulate municipal issuers. See GAO, Dodd-Frank Wall Street Reform Act: Role of Governmental Accounting  Standards Board in the Municipal Securities Markets and Its Past Funding, GAO-11-267R  (Washington, D.C.: Jan. 18, 2011). Other Options for Improving Continuing Disclosure Could Be Achieved within Existing Regulatory Framework

Experts and market participant groups we surveyed and others with  whom we spoke suggested other options for improving disclosure that  could be implemented within the existing regulatory framework. MSRB and SEC Have Been Taking Steps to Address Some Options

MSRB has taken recent actions to improve the timeliness of disclosure of  financial information, the frequency of disclosure, and the completeness  of disclosure filings through improvements to EMMA with a focus on the  system’s functionality. SEC staff expect to release their staff report in  2012, and include legislative, regulatory, and industry best practices and  recommendations to SEC Commissioners for measures to improve  primary and secondary market disclosure practices, measures to improve  market practices, and associated regulation. SEC and MSRB provided technical comments, which we  incorporated, as appropriate. FINRA did not provide comments on the  draft report. GAO staff who made key contributions to this  report are listed in appendix V.

Appendix I: Objectives, Scope, and Methodology

The objectives of this report were to (1) examine the extent to which  information currently provided on municipal securities is useful and the  extent to which existing regulation reflects principles for effective  disclosure; and (2) identify options for improving the information issuers  disclose to investors of municipal securities, and the related benefits and  challenges of these options for investors and issuers. Appendix III: Principles of Effective Disclosure Compared with Current Disclosure Regulations for Municipal Securities

We compared requirements for continuing disclosure in the Securities  and Exchange Commission’s (SEC) Rule 15c2-12 and SEC’s antifraud  authorities with principles for effective disclosure that were developed by  an international organization of securities commissions, which included  SEC, and certain plain English principles developed by SEC. We found  that the current municipal securities disclosure requirements broadly  reflect the seven principles for effective disclosure.
Why GAO Did This Study

Municipal securities are debt instruments that state and local governments issue to finance diverse public projects. As of March 31, 2012, individual investors held up to 75 percent of the total value of municipal securities outstanding. These securities are exempt from certain federal disclosure requirements applicable to other securities sold publicly. Disclosure provided in the primary market, where these securities are issued, generally consists of official statements. Continuing disclosure is information provided in the secondary market, where these securities are bought and sold after issuance. The Dodd-Frank Wall Street Reform and Consumer Protection Act required GAO to review the information issuers of municipal securities must disclose for the benefit of investors.
This report addresses (1) the extent to which information currently provided on municipal securities is useful for investors and the extent to which existing regulations reflect principles for effective disclosure, and (2) options for improving the information issuers disclose to investors of municipal securities. To conduct this work, GAO reviewed disclosure rules and compared them with principles for effective disclosure cited by SEC and the International Organization of Securities Commissions, surveyed selected experts and market participants, and interviewed issuers.
GAO provided a draft of this report to SEC, MSRB, and the Financial Industry Regulatory Authority (FINRA). SEC and MSRB provided technical comments, which GAO incorporated, as appropriate. FINRA did not provide comments.

What GAO Found

Market participants indicated that primary market disclosure for municipal securitiesofficial statementsgenerally provides useful information, but investors and market participants cited a number of limitations to continuing disclosures. The most frequently cited limitations were timeliness, frequency, and completeness. For example, investors and other market participants said that issuers do not always provide all the financial information, event notices, or other information they pledged to provide for the lifetime of a security. While GAO's analysis of current regulatory requirements for municipal securities disclosure found that they largely reflected the seven principles of effective disclosure, regulators and market participants said that there are some limitations on the enforceability and efficiency of the regulations. However, the effect of these limitations on individual investors largely is unknown because limited information exists about the extent to which individual investors use disclosures to make investment decisions. Nevertheless, regulators remain concerned about this market, in part due to its size and the participation of individual investors. As discussed below, the Securities and Exchange Commission (SEC) and Municipal Securities Rulemaking Board (MSRB) have been taking or plan to take actions to improve disclosure.
Experts and market participant groups GAO surveyed suggested options for improving disclosure, some of which would require statutory changes while others could be achieved within the existing regulatory framework. One suggested statutory change was the repeal of the Tower Amendment, which some experts believed would allow federal regulators to directly require issuers to make disclosures, but SEC and MSRB staff did not agree. The Tower Amendment prohibits SEC and MSRB from requiring issuers of municipal securities to file certain materials with them. While MSRB and SEC staff said that repealing the Tower Amendment would remove the prohibitions on requiring issuers to file certain materials with them, they noted that it would have no real effect on what they can require issuers to disclose because municipal issuers are exempt from SEC registration and MSRB does not otherwise have affirmative authority to regulate municipal issuers. Other suggestions from experts and market participant groups requiring statutory changes included mandating accounting standards and requiring the submission of financial information at intervals more frequent than annually. Experts and market participant groups suggested other options to improve disclosure that could be achieved within the existing regulatory framework, including further improving and promoting MSRB's Electronic Municipal Market Access (EMMA) system, which since July 2009 has served as the official central repository for disclosures about municipal securities. While experts and market participants said that EMMA had greatly improved their access to information on municipal securities, many suggested that further enhancements to EMMA would increase the usefulness of the system to investors and issuers. MSRB issued a plan in January 2012 to improve EMMA and recently has taken steps to enhance EMMA's functionality. Further, SEC staff indicated their plan to release a staff report in 2012 to include recommendations on measures to improve primary and secondary market disclosure practices, market practices, and associated regulation.