[Federal Register Volume 59, Number 52 (Thursday, March 17, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-5928]
[[Page Unknown]]
[Federal Register: March 17, 1994]
-----------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
17 CFR Part 240
[Release No. 34-33743, File No. S7-6-94]
RIN 3235-AF84; 3235-AG12
Confirmation of Transactions
AGENCY: Securities and Exchange Commission.
ACTION: Proposed amendments to Rule 10b-10 and proposed rulemaking.
-----------------------------------------------------------------------
SUMMARY: The Securities and Exchange Commission is publishing for
comment amendments to Rule 10b-10 and proposed Rule 15c2-13 under the
Securities Exchange Act of 1934. The proposed amendments to Rule 10b-10
are designed to clarify the operation of the Rule, particularly in
light of changes in the securities markets and the development of new
securities products. The amendments and new rule are designed to
enhance the disclosure given to customers so that customers can better
evaluate their securities transactions. The Commission is seeking
comment on the function of the confirmation in the context of a three
day settlement period, and the adequacy and readability of customer
periodic statements.
DATES: Comments should be received on or before June 15, 1994.
ADDRESSES: Comments should be submitted in triplicate to Jonathan G.
Katz, Secretary, Securities and Exchange Commission, 450 Fifth Street,
NW., Mail Stop 6-9, Washington, DC 20549. Comment letters should refer
to File No. S7-6-94. All comment letters received will be available for
public inspection and copying in the Commission's Public Reference
Room, 450 Fifth Street, NW., Washington, DC 20549.
FOR FURTHER INFORMATION CONTACT: Robert Colby, Deputy Director, (202/
272-2790), Catherine McGuire, Chief Counsel, (202/272-2844), or C. Dirk
Peterson, Attorney, (202/504-2418), Division of Market Regulation,
Securities and Exchange Commission, 450 Fifth Street, NW., Mail Stop 5-
1, Washington, DC 20549.
SUPPLEMENTARY INFORMATION: The Securities and Exchange Commission
(``SEC'' or ``Commission'') proposes to amend the confirmation
requirements under Rule 10b-101 of the Securities Exchange Act of
1934 (``Exchange Act'')2 to strengthen its investor protection
function. Generally, Rule 10b-10 requires a broker-dealer that effects
transactions for customers in securities, other than U.S. Savings Bonds
or municipal securities, to provide a written notification to the
customer, at or before completion of the transaction, that discloses
information about the transaction.3 Confirmation of a securities
transaction provides basic customer protection, the importance of which
was recognized by the Commission as early as 1937.4
---------------------------------------------------------------------------
\1\17 CFR 240.10b-10.
\2\15 U.S.C. 78a et seq.
\3\A broker-dealer has an obligation under Rule 10b-10 to send
its customers an immediate confirmation with respect to each
transaction the broker-dealer effects. In the case of a customer
account managed by a fiduciary of the customer, it is important to
note that the account is the customer, rather than the fiduciary.
See generally Letter regarding Merrill Lynch, Broadcort Capital
Corp. and Wagner Stott Clearing Corp. (March 25, 1991)[available on
LEXIS]. Accordingly, under Rule 10b-10, a broker-dealer must send an
immediate confirmation to the account holder, in addition to any
confirmation it may send to an account fiduciary. The Commission
believes, however, that an account that has given discretionary
authority in writing to its fiduciary may agree in writing with the
broker-dealer effecting its trades to waive the receipt of an
immediate confirmation required by Rule 10b-10 if: (1) The broker-
dealer sends an immediate confirmation to the account's fiduciary,
and (2) a broker-dealer sends the discretionary account a statement
no less frequently than quarterly containing all the information
required to be disclosed on the immediate confirmation. The customer
may not waive this quarterly statement.
\4\Rule 15c1-4, 17 CFR 240.15c1-4, an earlier confirmation rule,
was adopted by the Commission in 1937. Securities Exchange Act
Release No. 1330 (Aug. 4, 1937). This rule, which solely applied to
transactions in securities in the over-the-counter market, was
replaced in 1978 by Rule 10b-10, which extended the Commission's
confirmation requirements to trades conducted on a securities
exchange. Securities Exchange Act Release No. 15219 (Oct. 6, 1978),
43 FR 47495. Rule 10b-10 initially was adopted in part in May 1977.
Securities Exchange Act Release No. 13508 (May 5, 1977), 42 FR 25318
(``Adopting Release'').
---------------------------------------------------------------------------
The proposed amendments to Rule 10b-10 would: (1) Require
confirmation disclosure of mark-ups and mark-downs for riskless
principal transactions in debt securities; (2) require disclosure of
the fact that a debt security is not rated by a nationally recognized
statistical rating organization; (3) require confirmation disclosure of
mark-ups and mark-downs in Nasdaq and exchange-listed securities; (4)
require disclosure regarding whether broker-dealers are not members of
the Securities Investor Protection Corporation; (5) modify the
disclosure requirements with respect to certain collateralized debt
securities; (6) add a preliminary note to the Rule indicating that the
Rule's disclosure requirements do not limit disclosures necessary under
the antifraud provisions of the federal securities laws; and (7)
restructure the Rule.
Proposed Rule 15c2-13 would require brokers, dealers, and municipal
securities dealers (1) to disclose mark-up information in riskless
principal transactions in municipal securities; and (2) to disclose
when a particular municipal security is not rated by a nationally
recognized statistical rating organization.
The confirmation serves several functions: it acts as a customer
invoice; informs investors of the details of a transaction, allowing
the investor to check for errors or misunderstandings; provides
consumer information, allowing investors to evaluate the cost and
quality of the services provided by broker-dealers; discloses to
investors possible conflicts of interest between them and the broker-
dealer; and acts as a safeguard against fraud, by permitting the
customer to detect problems associated with a transaction.
Implementation of a settlement period of three days (``T+3'') may
alter the confirmation's utility as a customer invoice because normal
confirmation delivery and the transfer of customer funds and securities
may not be possible within the three day settlement period. Under the
previous settlement period of five days, confirmations generally
reached customers in time for the customer to review them prior to
transferring funds or securities to the transacting broker-dealer.
Under T+3, the customer frequently will not receive the confirmation
through the mails by day three;5 thus, shortening the settlement
period may require broker-dealers either to demand funds or securities
from the customer earlier than at present or to cover the cost of the
transaction for a longer period of time.
---------------------------------------------------------------------------
\5\Broker-dealers may alleviate the concerns of mail delay, for
example, by sending confirmations by facsimile.
---------------------------------------------------------------------------
Although implementation of T+3 does not create compliance problems
with regard to Rule 10b-10,6 the Commission requests comment on
its effect on the confirmation's investor protection functions. If the
confirmation is used less frequently as an invoice, should some of the
confirmation's content be shifted to periodic account statements?7
---------------------------------------------------------------------------
\6\Some commentators suggested that substantive changes to Rule
10b-10 will be necessary as a result of the adoption of Rule 15c6-1
of the Exchange Act, 17 CFR 240.15c6-1, which implemented T+3.
Because Rule 10b-10 requires a broker-dealer to send a customer
written confirmation ``at or before completion of the transaction,''
some have argued that a T+3 settlement period will make compliance
with Rule 10b-10 impossible. The Commission notes, however, that
broker-dealers can comply with Rule 10b-10 even under a T+3
settlement period. Rule 10b-10 requires only that the broker-dealer
send written confirmation by settlement date, not that the customer
actually receive it by settlement. In the current five days
settlement period, broker-dealers typically send customer
confirmations the day after trade date, which will satisfy Rule 10b-
10 even under a T+3 settlement period.
\7\Six of the exchanges and the National Association of
Securities Dealers, Inc. (``NASD'') have rules requiring that such
periodic statements be sent to customers. The Commission has
proposed a rule requiring annual account statements in the payment
for order flow context. See Securities Exchange Act Release No.
33026 (Oct. 7, 1993), 58 FR 52934 (Oct. 13, 1993).
---------------------------------------------------------------------------
In this connection, the Commission solicits comment on the adequacy
and readability of periodic statements of account generally and whether
these account statements are read and relied upon by investors in
monitoring their accounts.
1. Disclosure of Mark-Ups in Riskless Principal Transactions in Debt
Securities
Rule 10b-10 currently requires disclosures of broker-dealer
compensation in agency and specified principal trades. In agency
trades, the confirmation must disclose both the transaction price and
the commission charged.8 In principal trades involving ``Reported
Securities,''9 the confirmation must disclose the trade price
reported by the broker-dealer for that transaction and the mark-up
calculated from the reported price.10 In ``riskless'' principal
trades in non-reported equity securities,11 Rule 10b-10 requires
brokers and dealers, other than market makers, to disclose the amount
of any mark-up received.12 The Commission is proposing to amend
Rule 10b-10 to require the disclosure of mark-up information for
riskless principal trades in debt securities, other than U.S. Savings
Bonds and municipal securities. The Commission also is proposing Rule
15c2-13 to require disclosure of mark-up information in riskless
principal trades in municipal securities. Rule 10b-10 currently
requires confirmations for transactions in debt securities to disclose
to the customer the net dollar price and yield, but not separate
disclosure of compensation information.13 The Commission believes
that investors in debt securities, like investors in equity securities,
should be informed of the costs in riskless principal trades because,
despite the legal distinctions, these trades are the functional
equivalent of transactions effected on an agency basis.
---------------------------------------------------------------------------
\8\17 CFR 240.10b-10(a)(2) and 17 CFR 240.10b-10(a)(7)(ii).
\9\Rule 11Aa3-1(a)(4), 17 CFR 240.11Aa3-1(a)(4), defines
``Reported Security'' as any exchange-listed equity security or
Nasdaq security for which transaction reports are made available on
a real-time basis pursuant to an effective transaction reporting
plan. An ``effective transaction reporting plan'' refers to a
transaction reporting plan that the Commission has approved pursuant
to Rule 11Aa3-1. 17 CFR 240.11Aa3-1(a)(3).
Reported Securities presently include:
1. Nasdaq securities that meet standards set forth in the
National Market System Securities Designation Plan (``Nasdaq/NMS
securities'').
2. Certain securities listed on a national securities exchange
that meet standards of the transaction reporting plan known as the
Restated Consolidated Tape Association Plan (``CTA Plan''). This
would include securities that are registered or admitted to unlisted
trading privileges on a national securities exchange, including
securities listed on various regional exchanges, and that
substantially meet New York Stock Exchange, Inc (``NYSE'') or
American Stock Exchange, Inc. (``Amex'') original listing criteria.
A number of securities that are quoted on Nasdaq and listed on
certain regional stock exchanges, however, are not subject to an
effective transaction reporting plan. Approximately 1,600 securities
traded on Nasdaq do not satisfy the criteria for designation as a
Nasdaq/NMS security, and thus are not part of an effective
transaction reporting plan. Similarly, a limited number of regional-
exchange listed securities are not covered by the CTA Plan.
\1\017 CFR 240.10b-10(a)(8)(i)(B).
\1\1''Riskless'' principal trades are transactions in which,
after receiving an order to buy or sell from a customer, the broker-
dealer purchases the security from another person to offset a
contemporaneous purchase by the customer or sells the security to
another person to offset a contemporaneous sale by the customer.
Although these transactions are characterized as riskless, they
still involve counterparty risk. See Exchange Act Rule 15c3-
1(a)(2)(vi), 17 CFR 240.15c3-1(a)(2)(vi), (relating to net capital
requirements).
Rule 10b-10 currently does not require that a broker-dealer
acting as a principal, other than in a ``riskless'' principal
capacity, disclose the amount of mark-up for transactions in non-
reported securities. But see, infra Section 3 for a discussion of
mark-up disclosure requirements for non-reported securities that are
subject to last-sale reporting.
For purposes of clarity and to conform to Rule 15g-4, 17 CFR
240.15g-4 (requiring riskless principal disclosure for trades
involving penny stocks), the Commission proposes to replace the term
``amount of any mark-up, mark-down, or similar remuneration
received,'' currently used in Rule 10b-10, with ``difference between
the price to the customer and such contemporaneous purchase or sale
price.''
\1\217 CFR 240.10b-10(a)(8)(i)(A). For purposes of this release,
references to mark-ups are equally applicable to mark-downs or
commission equivalents.
In determining the broker-dealer's mark-ups for antifraud
disclosure purposes, the Commission advises broker-dealers to note
that the framework set forth in Alstead, Dempsey & Company, Inc., 47
S.E.C. 1034 (1984), governs the appropriate method for determining
the prevailing market price in active or dominated and controlled
markets. See Securities Exchange Act Release No. 29093 (Apr. 17,
1991), 56 FR 19165, for further discussion of Alstead in connection
with proposed penny stock rules which are adopted in Securities
Exchange Act Release No. 30608 (Apr. 20, 1992), 57 FR 18004. See
also Meyer Blinder, Securities Exchange Act Release No. 31095, (Aug.
26, 1992), 52 SEC Doc. 1436, appeal docketed sub. nom. Gorden v.
SEC, No. 92-1554 (D.C. Cir.) appeal dismissed per stipulation
(applying the Alstead framework to case involving excessive mark-ups
in a dominated and controlled market). See Securities Exchange Act
Release No. 33083 (Oct. 21, 1993).
\1\317 CFR 240.10b-10(a)(5).
---------------------------------------------------------------------------
On three previous occasions, the Commission proposed amendments to
Rule 10b-10 that would have required disclosure of mark-ups for
riskless principal trades involving debt securities, including
municipal securities.14 Commentators argued against adoption of
mark-up disclosure for riskless principal debt trades saying that: (1)
The amount of a mark-up was not material to investors; (2) adoption of
the proposal would have a detrimental, disproportionate effect on small
broker-dealers; and (3) the amendment would present compliance and
enforcement difficulties because of differences between the debt and
equity markets.15 The Commission withdrew the proposal in
1982,16 and subsequently adopted amendments requiring that
confirmations contain disclosures concerning the yield of debt
securities.17
---------------------------------------------------------------------------
\1\4See Securities Exchange Act Release No. 15220 (Oct. 6,
1978), 43 FR 47538 (proposing mark-up disclosure for riskless
principal trades in municipal securities) (``1978 Release'');
Securities Exchange Act Release No. 13661 (June 23, 1977), 42 FR
33348 (proposing mark-up disclosure by non-market makers in riskless
principal transactions involving equity and debt securities, but not
municipal securities); and Securities Exchange Act Release No. 12806
(Sept. 16, 1976), 41 FR 41432 (proposing mark-up disclosure by non-
market makers in riskless principal transactions involving equity
and debt securities).
\1\5One commentator noted that determining whether a particular
firm was a market maker in the debt context was difficult because
the market maker definition contemplates an equity environment and
does not account for the differences in the debt environment. See
Letter from Sullivan & Cromwell, to George A. Fitzsimmons,
Secretary, SEC, dated January 15, 1979.
\1\6Securities Exchange Act Release No. 18987 (Aug. 20, 1982),
47 FR 37919.
\1\7Securities Exchange Act Release No. 18988 (Aug. 20, 1982),
47 FR 37920, adopted in Securities Exchange Act Release No. 19687
(Apr. 18, 1983), 48 FR 17583.
---------------------------------------------------------------------------
In light of the increasing size of the debt market,18 together
with experience with mark-up disclosure in riskless principal trades
for equities, the Commission believes that mark-up disclosure for
riskless principal trades in debt securities should be
revisited.19 Confirmation disclosure of mark-ups in riskless
principal transactions will aid investors by disclosing to them
transaction costs. This will assist the client in monitoring brokerage
expenses and detecting possible improper practices. For instance, the
Commission understands that mark-ups charged in riskless principal
trades in long-term securities are substantially greater than mark-ups
charged in short-term securities, because the impact on disclosed yield
is smaller in the long term trade. The Commission believes that
customers should be given the ability to compare mark-ups in these
trades.
---------------------------------------------------------------------------
\1\8The amount of outstanding debt in the U.S. is approximately
$1.9 trillion in corporate debt, of which $298 billion is held by
individual investors (households and mutual funds) in corporate and
foreign debt securities (See Flow of Fund Accounts, First Quarter,
1993), $4.9 trillion in U.S. government securities, and $1.2
trillion in municipal bonds. Securities Industry Fact Book,
Securities Industry Association (1993), at 21. The municipal
securities market comprises approximately 50,000 state and local
issuers with an outstanding principal amount of securities in excess
of $1.2 trillion. See SEC Report on the Municipal Securities Market
(Sept. 1993), at 1. There are approximately 1.3 million classes of
municipal securities spread across 150,000 different issuances.
Public Securities Association.
\1\9Mark-up disclosure requirements are applicable at present to
trades in debt securities convertible into equity securities.
Section 3(a)(11), 15 U.S.C. 78c(a)(11), and Rule 3a11-1 of the
Exchange Act, 17 CFR 240.3a11-1, define equity security to include
any security convertible into an equity security. Debt security is
defined to include a convertible security for purposes of certain
paragraphs of Rule 10b-10, but not for purposes of mark-up
disclosure in riskless principal trades.
---------------------------------------------------------------------------
In withdrawing the riskless principal mark-up disclosure proposal
in the 1978 Release, the Commission stated that it would ``maintain
close scrutiny to prevent excessive mark-ups and take enforcement
action where appropriate.''20 Since 1982, the Commission and NASD
have undertaken a number of enforcement actions against broker-dealers
involving undisclosed, excessive mark-ups in debt securities.21
Requiring disclosure of mark-ups in riskless principal trades in debt
securities would supplement the Commission's and self-regulatory
organizations' enforcement programs, by giving investors greater
ability to review the mark-ups on their transactions. As a practical
matter, the proposed amendment also may permit broker-dealers that
consistently observe the highest standards of practice to compete more
effectively against broker-dealers that charge excessive mark-
ups.22
---------------------------------------------------------------------------
\2\0Securities Exchange Release No. 18987 (Aug. 20, 1982), 47 FR
37919, at 37920.
\2\1See, e.g., F.B. Horner & Associates v. S.E.C., 994 F.2d 61
(2d Cir. 1993) (mark-ups charged of 5% for collateralized mortgage
obligations held to be excessive); First Honolulu Securities Corp.,
mark-ups of 5% for municipal and corporate bonds held to be
excessive); Investment Planning, Inc., Securities Exchange Act
Release No. 32687 (July 28, 1993) (upholding NASD finding that mark-
ups of 4% on certain corporate and municipal bonds were excessive);
Lake Securities, Inc., (Securities Exchange Act Release No. 31283
(Oct. 2, 1992) (mark-down of 7.4% on FNMA mortgage-backed securities
held to be fraudulent); Hamilton Bohner, 44 S.E.C. Doc. 1297 (1989)
(mark-downs ranging from 5.3% to 10.2% in excess of permissible
levels and NASD's findings of violations upheld); Donald T. Sheldon,
Admin. Proc. File No. 3-6626 (December 2, 1988)[available on
LEXIS](undisclosed mark-ups of over 8% for municipal bonds and over
5% for government securities found to be excessive), appeal
docketed, No. 93-4405 (11th Cir.); Alan Charles Refkin, Securities
Exchange Act Release No. 26311 (Nov. 25, 1988), 42 S.E.C. Doc. 490
(consent decree included findings that certain registered
representatives executed transactions involving mark-ups of between
10% and 34% in zero coupon bonds); PaineWebber, Inc., Securities
Exchange Act Release No. 25418 (Mar. 4, 1988), 40 S.E.C. Doc. 693
(offer of settlement stated that registrant charged customers
undisclosed, excessive mark-ups in transactions involving the sale
and repurchase of stripped U.S. Treasury bond coupons); Nicholas A.
Codispoti, 48 S.E.C. 842 (1987) (mark-ups of 6.1% to 32.7% on
municipal bonds with inactive market found to be excessive); Sutro &
Co., Securities Exchange Act Release No. 23663 (Sept. 30, 1986), 36
S.E.C. Docket 1199 (offer of settlement included finding that
transactions were executed with mark-ups and mark-downs of between
10% and 34% on U.S. Treasury bonds); Hanauer, Stern & Co.,
Securities Exchange Act Release No. 21313 (Sept. 11, 1984), 31
S.E.C. Doc. 483 (consent decree included findings of excessive mark-
ups on municipal securities transactions); S.E.C. v. MV Securities,
Inc. (S.D.N.Y., No. Civ. 1164), Litigation Release No. 10289 (Feb.
21, 1984), 29 S.E.C. Doc. 1591, (defendants enjoined from, inter
alia, paying or charging unfair prices to customers in municipal
bond transactions).
The Commission brought an injunctive action against an
unregistered broker-dealer for defrauding his customers by secretly
interpositioning himself between customers and dealers in certain
government and municipal securities, and appropriating for himself
better market prices that should have been made available to his
customers. SEC v. Ridenour, 913 F.2d 515 (8th Cir. 1990).
In addition, the Commission has submitted amicus briefs in cases
alleging excessive mark-ups in debt securities. See, e.g., Amicus
Curiae Brief of the SEC and Elysian Federal Savings Bank v. First
Interregional Equity Corp., 713 F. Supp. 737 (D. N.J. 1989)(brief
arguing that mark-ups ranging from 17.4% to 21.27% for principal
only trust certificates were excessive and mark-ups ranging between
5.3% to 7.39% on collateral mortgage obligations were excessive).
\2\2The Commission is aware of instances in which the customer,
while being correctly informed that no ``commission'' is involved in
a principal transaction in a debt security, has been given the
impression that no transaction fee is being charged. See ``Firms
Must Accurately Disclose Bond Trading Charges,'' NASD Regulatory &
Compliance Alert (June 1990). Irrespective of current or future Rule
10b-10 disclosure requirements, a misleading statement or a failure
to disclose material facts about the compensation received by the
broker-dealer constitutes an antifraud violation.
---------------------------------------------------------------------------
Because riskless principal transactions do not involve holding
securities in inventory for any appreciable length of time,23 the
broker-dealer's compensation easily can be calculated by comparing the
order tickets for the purchase and sale involved. In addition, a
broker-dealer must assess whether its mark-ups violate NASD or
Commission mark-up policies. Accordingly, the Commission does not
believe that the proposal would be overly burdensome for broker-
dealers.
---------------------------------------------------------------------------
\2\3The riskless principal disclosure requirements are intended
to apply to offsetting transactions, regardless of the sequencing of
the transaction. See Securities Exchange Act Release No. 15219 (Oct.
6, 1978), at n. 20; and Letter regarding Buys-MacGregor, McNaughton-
Greenwalt & Co., (Feb. 1, 1980), [1980] Fed. Sec. L. Rep. (CCH)
76,313.
---------------------------------------------------------------------------
Unlike current disclosure requirements for riskless principal
transactions in equity securities, the proposed amendment and Rule
15c2-13 do not include an exclusion for market makers. This exclusion
is omitted because market makers have a much more limited function in
the debt markets. Typically, dealers in these markets, especially the
municipal market, do not display two-sided quotations nor carry
inventories of debt securities, as is characteristic of a market maker
in equity securities. Because of the tax implications, the lack of
dealer inventory, and the relative illiquidity of the market for any
particular municipal security, short positioning of municipal
securities is difficult and imposes greater risk that a dealer will be
unable to cover its short position.24
---------------------------------------------------------------------------
\2\4Short positioning municipal securities is rare because the
Internal Revenue Service will not allow both a borrower and lender
of a municipal security to claim a tax exemption. In effect, the
lender of a municipal security would be trading tax exempt interest
for taxable interest. In addition, to the extent that any short
positioning occurs with respect to municipal securities, the IRS
imposes additional reporting requirements on the participating
parties. See Internal Revenue Code, Sec. 6045(d).
---------------------------------------------------------------------------
The Commission requests comment on the proposal to disclose mark-
ups in riskless principal transactions in debt securities. In
particular, the Commission requests comment concerning whether
proposals requiring mark-up disclosure in riskless principal
transactions in municipal securities should be incorporated in one rule
under the authority of the Municipal Securities Rulemaking Board
(``MSRB''), rather than the Commission. In addition, comment is sought
concerning the proposed definition of riskless principal contained in
sub-paragraphs (e)(10) and (b)(3) of Rule 10b-10 and Rule 15c2-13,
respectively.25 The Commission further requests comment concerning
the extent to which broker-dealers act as market makers, as defined in
Section 3(a)(38), in the debt market and the extent that broker-dealers
currently calculate mark-ups in riskless principal debt transactions
for business purposes, such as determining the compensation of sales
personnel.26 In addition, the Commission requests comment on
whether the proposed requirements for mark-up disclosure in debt
securities should cover securities transactions occurring on the same
day rather than limiting the disclosure solely to riskless principal
transactions.
---------------------------------------------------------------------------
\2\5See, supra, note 10 for a discussion of riskless principal
transactions.
\2\6Salesperson compensation is often determined as a percentage
of the gross mark-up charged on a principal transaction.
---------------------------------------------------------------------------
2. Disclosure of Unrated Debt Securities
As proposed, both Rule 10b-10 and Rule 15c2-13 will require broker-
dealers to disclose when a debt security, other than securities defined
under Section 3(a)(42)(A) and (B) of the Exchange Act,27 is not
rated by a nationally recognized statistical rating organization. The
Commission is not requiring the disclosure of the specific rating of a
debt security because that information most likely will be disclosed to
a customer when a broker-dealer sells such a security. Brokers are less
likely to inform customers that a security is not rated. While the
Commission recognizes that an unrated bond may not necessarily be
unsound or speculative, this information will benefit investors by
alerting them that they may want to make further inquiry of the broker-
dealer. In the municipal securities market, this information is
particularly useful because of the limited secondary market information
in that market and the comparatively higher rates of issuer default for
unrated municipal bonds.28 The Commission requests comment whether
securities other than U.S. Treasury securities should be excluded from
this requirement. In addition, the Commission requests comment on
whether this requirement as it relates to municipal securities should
be incorporated in one rule under the authority of the MSRB.
---------------------------------------------------------------------------
\2\715 U.S.C. 78(c)(a)(42)(A) and (B).
\2\8Statistics have shown that unrated municipal bonds, which
make up approximately one-third of the market, in the aggregate have
a higher default rate than do rated bonds. See Municipal Bond
Defaults--The 1980's a Decade in Review 1-2, at 1, J.J. Kenny Co.,
Inc. 1993). According to this study on default rates between January
1, 1980 to December 31, 1991, 628 unrated issues defaulted compared
with 98 rated issues. See also, Public Securities Association, An
Examination of Non-Rated Municipal Defaults 1986-1991 4 (Jan. 8,
1993).
---------------------------------------------------------------------------
3. Disclosure of Mark-Ups and Mark-downs in Certain Nasdaq and
Exchange-Listed Securities
Since 1985, Rule 10b-10 has required broker-dealers acting as
principals in transactions in Reported Securities29 to disclose on
customer confirmations the reported trade price, the price to the
customer, and the difference between the two prices.30 In response
to the expansion of last sale reporting to additional securities, the
Commission is now proposing to amend Rule 10b-10 to require similar
disclosure in principal transactions in Nasdaq equity securities that
are not Nasdaq/NMS securities (``Nasdaq Small Cap Securities'') and
certain exchange-listed securities. These securities are subject to
last sale reporting, but are not included in the definition of
``Reported Security,'' as provided in Rule 11Aa3-1 of the Exchange Act.
---------------------------------------------------------------------------
\2\9See, supra note 8 for the definition of ``Reported
Securities.''
\3\017 CFR 240.10b-10(a)(8)(i)(B). The reported trade price is
the price at which a broker-dealer reports a trade to NASDAQ or an
exchange. Price to the customer means the ultimate price the
customer pays or receives for a securities transaction, including
any miscellaneous fees imposed by the broker-dealer. This would not
include fees, such as taxes, SEC fees, or any other fees required by
state or federal law. See, e.g., Letter regarding Cities Securities
Corp. (Dec. 11, 1991) [available on LEXIS].
---------------------------------------------------------------------------
In April, 1992, the Commission approved a proposal by the
NASD31 to require last sale and volume reporting for all
securities traded on Nasdaq.32 Shortly afterwards, the NASD
required its members to disclose to customers on written confirmations
the reported trade price, the price to the customer, and the difference
between the two prices in a particular Nasdaq Small Cap Securities
transaction.33 The NASD's rule provides customers who trade Nasdaq
Small Cap Securities with the same compensation disclosure required
under Rule 10b-10 for Nasdaq/NMS securities.
---------------------------------------------------------------------------
\3\1Securities Exchange Act Release No. 30392 (Feb. 21, 1992),
57 FR 6880.
\3\2Securities Exchange Act Release No. 30569 (Apr. 10, 1992),
57 FR 13396.
\3\3NASD Schedule to By-Laws, Schedule D, pt. XI, Sec. 3, NASD
Manual (CCH) 1867D, approved in Securities Exchange Act Release No.
30871 (June 29, 1992), 57 FR 30281.
---------------------------------------------------------------------------
The proposed amendment would consolidate in Rule 10b-10
compensation disclosure applicable to all Nasdaq stocks. It also would
extend this compensation disclosure to principal transactions in
regional-exchange listed securities subject to last sale
reporting.34 Doing so would treat similar securities consistently
and would provide benefits to customers with little additional burden
on broker-dealers. Because securities traded through Nasdaq and
regional exchanges are subject to last sale reporting requirements, and
NASD members are required to disclose on confirmations the reported
price, the customer's price, and the difference, capturing and
disclosing the same information for purposes of complying with Rule
10b-10 would not appear to require systems changes or additional
personnel.
---------------------------------------------------------------------------
\3\4Typically, these are securities of smaller companies that
are listed and traded exclusively on one regional exchange.
---------------------------------------------------------------------------
4. Disclosure of Coverage by the Securities Investor Protection
Corporation
The Commission is proposing to require that the confirmation
contain a disclosure concerning coverage under the Securities Investor
Protection Act of 1970 (``SIPA'').35 Under SIPA, all brokers or
dealers registered with the Commission under Section 15(b) of the
Exchange Act, with certain exceptions,36 are members of the
Securities Investor Protection Corporation (``SIPC''). In the event of
the financial failure of a SIPC member broker-dealer, SIPC protects
each customer up to $500,000 for claims for cash and securities, except
that claims for cash are limited to $100,000.
---------------------------------------------------------------------------
\3\5Securities Investor Protection Act of 1970. Pub. L. 91-598,
64 Stat. 1836, as amended (codified at 15 U.S.C. 78aaa et seq.).
\3\6The following broker-dealers are excluded from SIPC
membership: (1) Government securities broker-dealers registered
under section 15C of the Exchange Act; (2) persons whose principal
business in the determination of SIPC (and subject to Commission
approval) is conducted outside the United States; and (3) persons
whose business consists exclusively of (a) the distribution of
shares of registered open-end investment companies or unit
investment trusts, (b) the sale of variable annuities, (c) the
business of insurance, or (d) the business of rendering investment
advisory services to one or more registered investment companies or
insurance company separate accounts. SIPA secs. 3(a)(2)(A) and
16(12) 15 U.S.C. 78ccc(a)(2)(A) and 78lll(12).
---------------------------------------------------------------------------
A number of incidents involving the financial failure of registered
broker-dealers, and their unregistered affiliates, have illustrated the
potential for confusion about the application of SIPC coverage to
customers' accounts. In one of these cases, a registered broker-dealer
and its government securities affiliate were commonly owned, shared
personnel and office facilities, and did not distinguish between the
two entities in certain written and oral communications, leading to
customer confusion concerning SIPC coverage.37 Because government
securities brokers and dealers registered under section 15C of the
Exchange Act are not members of SIPC, their customer accounts are not
protected by SIPC.38
---------------------------------------------------------------------------
\3\7See generally, SEC v. Donald Sheldon Group, Inc. et al.,
Admin. Pro. File No. 3-6626 (Dec. 2, 1988).
\3\8See, supra note 33.
---------------------------------------------------------------------------
In order to reduce the potential for confusion regarding whether
SIPC coverage exists for accounts with government securities dealers,
as well as other cases where an investor might mistakenly assume that
SIPC coverage exists, the Commission is proposing to amend Rule 10b-10
to require broker-dealers that are not SIPC members to affirmatively
state in the customer confirmation that they are not SIPC members and
to require disclosure if the account is carried by a broker or a dealer
that is not a SIPC member. This disclosure requirement would be
consistent with the authority granted to the Commission concerning SIPC
disclosure under the Government Securities Acts Amendments of
1993.39
---------------------------------------------------------------------------
\3\915 U.S.C. 78O-5(a)(4).
---------------------------------------------------------------------------
5. Disclosure for Certain Asset-Backed Securities
The Commission is proposing to amend the yield disclosure
requirements with respect to asset-backed securities. The Rule
currently requires broker-dealers that effect transactions in debt
securities, other than U.S. Savings Bonds or municipal securities, to
disclose: (1) The yield to maturity, if the transaction is effected on
the basis of dollar price; (2) if the transaction is effected on a
yield basis, then the dollar price calculated from that yield; and (3)
if effected on a basis other than dollar price or yield to maturity,
and the yield to maturity will be less than the represented yield, then
both the yield to maturity and represented yield.
When these amendments were adopted, the Commission noted the
importance of yield data to an investor in transactions in debt
securities.40 The yield, or dollar price, at which a transaction
is effected in the secondary market will be directly related to the
anticipated maturity. Thus, features that cause a debt security to pay
sooner or later than expected will alter the actual yield that an
investor receives.
---------------------------------------------------------------------------
\4\0Securities Exchange Act Release No. 19687 (April 18, 1983),
49 FR 17583.
---------------------------------------------------------------------------
In recognition of this effect, the Commission excluded from the
actual yield disclosure requirements securities that represent an
interest in notes secured by liens upon real estate continuously
subject to prepayment.\41\ The Commission noted that fluctuations in
interest rates may cause mortgage notes underlying participation
certificates to prepay at rates faster or slower than anticipated. At
the time the Commission adopted the yield amendments, the primary
application of the exception was to transactions in securities issued
or guaranteed by the Government National Mortgage Association, Federal
National Mortgage Association, and the Federal Home Loan Mortgage
Corporation.
---------------------------------------------------------------------------
\41\For purposes of paragraphs (a)(3) and (a)(4), the term
``debt security'' is defined in Rule 10b-10(e)(4), 17 CFR 240.10b-
10(e)(4), to include a fractional or participation interest in
notes. The Commission also excepted securities with a maturity date
that may be extended by the issuer.
---------------------------------------------------------------------------
Since 1983, when the yield disclosure provisions were added to the
rule, the ``structured financing''\42\ market has been dramatically
increased to include securities backed by mortgage notes, automobile
loans, computer leases, consumer debt, and other receivables. Also,
broker-dealers now offer a variety of derivative mortgage instruments
and structured financing vehicles in which payment to investors is
related directly to payments of principal and interest on underlying
debt instruments. In many cases, these various asset-based securities
subject the investor to the same prepayment risks that are present in
mortgage participation certificates. To reduce prepayment exposure from
asset backed securities for some investors, collateralized mortgage
obligations (``CMOs'') have been developed.
---------------------------------------------------------------------------
\42\``Structured financing'' is a financing technique whereby a
sponsor, which has originated or has purchased certain financial
collateral, such as accounts receivable or mortgage loans, transfers
such assets to a trust, a limited purpose entity organized solely
for purposes of the offering. That entity then issues debt
obligations or equity securities with debt-like characteristics. The
process also has been termed ``securitization.''
---------------------------------------------------------------------------
CMOs are collateralized by pools of residential mortgage loans.
Like other asset-backed securities, the rate of prepayment on the
underlying collateral of CMOs is correlated inversely with interest
rate changes in the general economy. The actual maturities of CMOs are
dependent on these prepayment speeds. CMOs are priced on the basis of
the estimated ``weighted average life'' (``WAL'') of individual CMO
tranches. As interest rates decline, prepayments increase, with a
corresponding shortening of WALs. Conversely, an increase in interest
rates results in a lengthening of maturity. Estimated yields cannot be
established without some prepayment assumption underlying the WAL; for
this reason, disclosure of accurate prepayment assumptions, and an
appreciation of their implications, is essential to making a sound
investment decision.
CMOs are offered in several tranches of varying maturity and yield
that are intended to appeal to a broad spectrum of investors. One or
more tranches typically are structured as a planned amortization class
(``PAC''). PAC bonds, whose maturities are shielded from both WAL
extension and contraction risk, have the maximum protection available
in CMOs. Unlike PAC bonds, target amortization class (``TAC'') bonds
only provide protection against rapid prepayments, i.e., against a
shortening of maturity. In CMO offerings there also are ``support
classes,'' or ``companion classes,'' of the PAC or TAC bond classes,
which bear a disproportionate share of prepayment risk.\43\
---------------------------------------------------------------------------
\43\The PAC bond's cash flow stability is achieved by giving its
principal payments a higher priority than those of the CMO
``companion'' tranches. While PAC bonds generally yield about 50 to
75 basis points above comparable Treasury bonds, companion tranches
can yield as much as 150 to 175 basis points above comparable
Treasury bonds, an attractive yield for investors seeking
alternatives to money market funds and certificates of deposit. As a
by-product of PAC or TAC bonds, however, ``companion'' bonds are
more volatile than PAC or TAC bonds. According to Fitch Investors
Service, Inc., ``companion'' bonds generally demonstrate ``moderate-
to-high volatility, with a very small percentage having low
volatility.'' ``CMO Tranche Risk Revealed,'' Fitch Investors
Service, Inc. 3 (April 6, 1992).
---------------------------------------------------------------------------
In view of the changes in the structured financing market described
above, the Commission proposes to revise the yield disclosure
requirements for asset backed securities. On the one hand, the
Commission proposes to expand the range of debt securities where yield
need not be disclosed to include any asset backed security subject to
continuous prepayment.\44\ Broker-dealers must disclose yield
information with respect to debt instruments that are insulated from
prepayment risk, or where sufficient certainty exists to permit an
accurate forecast of the yield that investors will receive.\45\
---------------------------------------------------------------------------
\44\This amendment would codify a no-action response issued by
the staff in 1988 with respect to mortgage-backed securities, and
apply it to asset-backed securities generally. Letter regarding
Merrill Lynch Capital Markets (Oct. 19, 1988) [available on LEXIS].
\45\For example, the Commission notes that mortgage loans on
multi-family housing may contain substantial prepayment penalties,
so that a security collateralized by or representing an interest in
such notes would be expected to provide a predictable payment stream
to investors. Similarly, automobile receivables may provide a
predictable payment stream because automobile owners are less likely
to prepay their automobile loans. By their nature, certain
securities, such as most mortgage-backed bonds, also provide
certainty of cash flow.
---------------------------------------------------------------------------
On the other hand, the Commission proposes to treat CMOs
differently from other debt instruments under the proposed amendments.
A broker-dealer effecting transactions in CMOs would be required to
disclose, with respect to the security, (1) estimated yield, (2) the
weighted average life, and (3) the prepayment assumptions underlying
the yield.
The Commission emphasizes that the proposed amendments only would
apply to yield disclosure on a confirmation and would not affect the
broker-dealer's obligation under the general antifraud provisions of
the federal securities laws to disclose material information, apart
from that required by Rule 10b-10, regarding the composition of
mortgage pools or other factors that will affect yield.
In this connection, the Commission requests comments concerning the
manner in which yields are represented to investors in mortgage-backed
securities; the assumptions made by broker-dealers concerning
prepayment speed for mortgage pools; and how interest rate risk and
foreclosure risk are disclosed to investors in mortgage-backed
securities.
The Commission requests comment on the effect of the amendments on
customer understanding of the return on their investments. In addition,
the Commission requests comment on the advisability of requiring
separate disclosure relating to the prepayment assumptions underlying a
yield quotation in a CMO and on the written confirmation for a
transaction in a CMO.
6. Preliminary Note to Rule 10b-10
The Commission proposes to add a preliminary note to Rule 10b-10 to
clarify the relationship between the Rule's disclosure requirements and
additional disclosures that may be required to satisfy antifraud
provisions of the federal securities laws. In several cases over the
years, broker-dealer defendants have argued that because Rule 10b-10
did not require disclosure of specific information on a confirmation,
it was not material for purposes of the general antifraud provisions of
the Exchange Act.46 Although courts have given short shrift to
these arguments, the Commission wishes to reiterate that Rule 10b-10 is
not a safe harbor from the general antifraud provisions of the federal
securities laws.47 A broker-dealer has a duty established by
federal common law theories48 independent of the requirements of
Rule 10b-10 to disclose material facts to an investor at the time of
the investor's investment decision.49
---------------------------------------------------------------------------
\4\6See, e.g., Shivangi v. Dean Witter Reynolds, Inc., 637 F.
Supp. 1001 (S.D. Miss. 1986), aff'd, 825 F.2d 885 (5th Cir. 1987);
Krome v. Merrill Lynch, Pierce, Fenner & Smith Inc., 637 F. Supp.
910, 915-916 (S.D.N.Y. 1986); and Ettinger v. Merrill Lynch, Pierce,
Fenner & Smith, Inc., Fed. Sec. L. Rep. (CCH) 93,102 (E.D. Pa.
1986), rev'd, 835 F.2d 1031 (3d Cir. 1987).
\4\7In the adopting release to Rule 10b-10, the Commission
explained that:
The rule does not attempt to set forth all possible categories
of material information to be disclosed by broker-dealers in
connection with a particular transaction in securities. Rule 10b-10
only mandates the disclosure of information which can generally be
expected to be material. Of course, in particular circumstances,
additional information may be material and disclosure may be
required.
Securities Exchange Release No. 13508, (May 5, 1977), 42 FR
25318, at 25320 n.28.
See also Securities Exchange Act Release No. 22397 (Sept. 11,
1985), 50 FR 37648, 37653 n.53 (indicating that disclosure of a
``mark-up'' for national market system securities under Rule 10b-10
would not control traditional determinations of, among other things,
whether the mark-ups are excessive for purposes of the antifraud
provisions of the federal securities laws).
\4\8Two theories, the fiduciary and shingle theory, establish an
obligation on the part of a broker-dealer to deal with customers
fairly. In cases where a broker-dealer has established a customer
relationship based upon trust and confidence, and the customer
depends upon and follows the broker-dealer's advice, a fiduciary
relationship is established between the broker-dealer and customer.
As a fiduciary, the broker-dealer also is obligated to disclose all
the material facts of a customer's transaction. See In re Arleen W.
Hughes, 27 S.E.C. 627 (1948), aff'd, 174 F.2d 969 (D.C. Cir. 1949).
Closely related to the fiduciary theory is a duty to the
customer established by the ``shingle theory.'' According to the
shingle theory, a broker-dealer impliedly represents at the outset
of a securities transaction that it will deal with its customers
fairly and in accordance with the standards of the industry. Duker &
Duker, 6 S.E.C. 386, 388-89 (1939).
\4\9The fact that a broker-dealer has met the requirements of
Rule 10b-10 should begin the analysis, not end it. The confirmation
is delivered after the contract is created. Thus, irrespective of
the content of the confirmation, specific terms of the transaction
that may affect the customer's investment decision should be
disclosed at the time of a purchase or sale of a security. See,
e.g., Norris & Hirshberg v. S.E.C., 177 F.2d 228 (D.C. Cir. 1949)
(affirming a Commission decision holding that the failure of a
broker-dealer to disclose its true capacity at the time of a
transaction, as principal rather than as agent, was, among other
things, a violation of Section 10(b) of the Exchange Act,
notwithstanding the fact that the broker-dealer had disclosed that
it was acting as principal in confirmations sent to investors).
---------------------------------------------------------------------------
In amending Rule 10b-10, the Commission must balance the increased
cost to broker-dealers, and ultimately to investors, of compliance
against the benefits that added disclosures will provide
investors.50 In some instances, the Commission has declined to
adopt proposed amendments to its confirmation requirements because they
were considered too costly, or would have been too difficult to apply
on a uniform basis.51 Even when the Commission has not required
broker-dealers to disclose specific information to investors pursuant
to Rule 10b-10, this information nonetheless may be material to an
investor.52
---------------------------------------------------------------------------
\5\0For example, the Commission noted in the release proposing
Rule 10b-10 that:
Since the costs of regulation designed to promote investor
protection are in the final analysis paid for in large part by the
investor, the Commission is endeavoring to adjust regulatory
requirements to eliminate those for which compliance costs appear to
be disproportionate to the practical benefits of investor protection
thereby obtained.
Securities Exchange Act Release No. 12806 (Sept. 16, 1976), 41
FR 41432.
\5\1See Securities Exchange Act Release No. 18987 (Aug. 20,
1982), 47 FR 37919.
\5\2The Commission reiterated this point in a release concerning
disclosure of mark-ups in zero-coupon instruments. Securities
Exchange Act Release No. 24368 (Apr. 21, 1987), 52 FR 15575. See
also Amicus Curiae Brief of the SEC and Ettinger v. Merrill Lynch,
Pierce, Fenner & Smith, Inc., 835 F.2d 1031 (3d Cir. 1987).
---------------------------------------------------------------------------
Accordingly, the Commission is proposing to add a brief preliminary
note to the Rule, expressing the long-standing position that Rule 10b-
10 was not intended to codify the universe of disclosure necessary in a
transaction.
7. Restructuring of the Rule
A variety of non-substantive changes have been made to the rule to
enhance its clarity. Headings have been added to each paragraph.
Paragraph (a) has been reordered to combine elements dependent on the
capacity of the broker or dealer. Paragraphs (b) and (c) have been
combined into a single paragraph (c), and one element of former
paragraph (b) has been moved to the definition of ``investment company
plan'' in paragraph (e). A definition of riskless principal transaction
has been added, and references to broker or dealer have been made
gender neutral.
8. Effects on Competition and Regulatory Flexibility Act Considerations
Section 23(a)(2) of the Exchange Act53 requires that the
Commission, in adopting rules under the Act, consider the anti-
competitive effects of such rules, if any, and balance any anti-
competitive impact against the regulatory benefits gained in terms of
furthering the purposes of the Exchange Act. The Commission is
preliminarily of the view that the proposed amendments to Rule 10b-10
will not result in any burden on competition that is not necessary or
appropriate in furtherance of the purposes of the Exchange Act. The
Commission requests comment, however, on any competitive burdens that
might result from adoption of the amendments or the new rule.
---------------------------------------------------------------------------
\5\315 U.S.C. 78w(a)(2).
---------------------------------------------------------------------------
In addition, the Commission has prepared an Initial Regulatory
Flexibility Analysis (``IRFA''), pursuant to the requirements of the
Regulatory Flexibility Act,54 regarding the proposed amendments to
Rule 10b-10. The IRFA may be obtained from C. Dirk Peterson, in the
Office of Chief Counsel, Division of Market Regulation, (202) 504-2418.
---------------------------------------------------------------------------
\5\45 U.S.C. 603.
---------------------------------------------------------------------------
In addition, the Commission has consulted with the Department of
the Treasury pursuant to Section 15(c)(2) of the Exchange Act
concerning the SIPC disclosure requirements.
List of Subjects in 17 CFR Part 240
Reporting and recordkeeping requirements, securities.
Text of Proposed Amendments
For the reasons set forth in the preamble, title 17, chapter II of
the Code of Federal Regulations is proposed to be amended as follows:
PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF
1934
1. The authority citation for part 240 continues to read in part as
follows:
Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77eee, 77ggg,
77nnn, 77sss, 77ttt, 78c, 78d, 78i, 78j, 78l, 78m, 78n, 78o, 780-5,
78p, 78s, 78w, 78x, 78ll(d), 79q, 79t, 80a-20, 80a-23, 80a-29, 80a-
37, 80b-3, 80b-4 and 80b-11, unless otherwise noted.
* * * * *
2.240.1b Section 240.10b-10 is amended by adding a preliminary note
prior to paragraph (a), revising paragraphs (a) and (b), removing
paragraph (c), redesignating paragraphs (d) through (f) as paragraphs
(c) through (e), adding a heading to newly designated paragraph (d),
revising the introductory text of paragraph (d) and the introductory
text of paragraph (d)(6), and adding paragraphs (d)(9) and (d)(10) to
read as follows:
Sec. 240.10b-10 Confirmation of transactions.
Preliminary Note. This section requires broker-dealers to
disclose specified information in writing to customers at or before
the completion of a transaction. The requirements under this section
that particular information be disclosed is not determinative of a
broker-dealer's obligation under the general antifraud provisions of
the federal securities laws to disclose additional information to a
customer at the time of the customer's investment decision.
(a) Disclosure requirement. It shall be unlawful for any broker or
dealer to effect for or with the account of a customer any transaction
in, or to induce the purchase or sale by such customer of, any security
(other than U.S. Savings Bonds or municipal securities) unless such
broker or dealer, at or before completion of such transaction, gives or
sends to such customer written notification disclosing:
(1) The date and time of the transaction (or the fact that the time
of the transaction will be furnished upon written request of such
customer) and the identity, price, and number of shares or units (or
principal amount) of such security purchased or sold by such customer;
and
(2) Whether the broker or dealer is acting as agent for such
customer, as agent for some other person, as agent for both such
customer and some other person, or as principal for its own account;
and if the broker or dealer is acting as principal, whether it is a
market maker in the security (other than by reason of acting as a block
positioner); and:
(i) If the broker or dealer is acting as agent for such customer,
for some other person, or for both such customer and some other person:
(A) The name of the person from whom the security was purchased, or
to whom it was sold, for such customer or the fact that such
information will be furnished upon written request of such customer;
and
(B) The amount of any remuneration received or to be received by
the broker from such customer in connection with the transaction unless
remuneration paid by such customer is determined, pursuant to a written
agreement with such customer, otherwise than on a transaction basis;
and
(C) The source and amount of any other remuneration received or to
be received by the broker in connection with the transaction: Provided,
however, That if, in the case of a purchase, the broker was not
participating in a distribution, or in the case of a sale, was not
participating in a tender offer, the written notification may state
whether any other remuneration has been or will be received and that
the source and amount of such other remuneration will be furnished upon
written request of such customer; or
(ii) If the broker or dealer is acting as principal for its own
account:
(A) In the case of a riskless principal transaction, except where
the dealer is a market maker in an equity security, the difference
between the price to the customer and the dealer's contemporaneous
purchase (for customer purchases) or sale price (for customer sales);
or
(B) In the case of any other transaction in a reported security, or
an equity security that is quoted on Nasdaq or traded on a national
securities exchange, and that is subject to last sale reporting, the
reported trade price, the price to the customer in the transaction, and
the difference, if any, between the reported trade price and the price
to the customer; and
(3) Whether any odd-lot differential or equivalent fee has been
paid by such customer in connection with the execution of an order for
an odd-lot number of shares or units (or principal amount) of a
security and that the amount of any such differential or fee will be
furnished upon oral or written request: Provided, however, That such
disclosure need not be made if the differential or fee is included in
the remuneration disclosure, or exempted from disclosure, pursuant to
paragraph (a)(2)(ii)(B) of this section; and
(4) In the case of any transaction in a debt security subject to
redemption before maturity, a statement to the effect that such debt
security may be redeemed in whole or in part before maturity, that such
a redemption could affect the yield represented and that additional
information is available upon request; and
(5) In the case of a transaction in a debt security effected
exclusively on the basis of a dollar price:
(i) The dollar price at which the transaction was effected; and
(ii) The yield to maturity calculated from the dollar price;
provided, however, that this paragraph (a)(5)(ii) shall not apply to a
transaction in a debt security that either:
(A) Has a maturity date that may be extended by the issuer thereof;
or
(B)(1) That represents an interest in, or is secured by, notes or
other receivables continuously subject to prepayment, where payments to
security holders are reasonably related to payments on such notes or
receivables; and
(2) The written statement prominently indicates that the actual
yield received by the customer may vary according to the rate at which
the underlying notes or receivables are prepaid; and
(6) In the case of a transaction in a debt security effected on the
basis of yield:
(i) The yield at which the transaction was effected, including the
percentage amount and its characterization (e.g., current yield, yield
to maturity, or yield to call) and if effected at yield to call, the
type of call, the call date and call price;
(ii) The dollar price calculated from the yield at which the
transaction was effected; and
(iii) If effected on a basis other than yield to maturity and the
yield to maturity is lower than the represented yield, the yield to
maturity as well as the represented yield: Provided, however, that this
paragraph (a)(6)(iii) shall not apply to a transaction in a debt
security which either:
(A) Has a maturity date that may be extended by the issuer thereof,
with a variable interest rate payable thereon; or
(B)(1) That represents an interest in, or is secured by notes or
other receivables continuously subject to prepayment, where payments to
security holders are reasonably related to payments on such notes or
receivables; and
(2) The written statement prominently indicates that the actual
yield received by the customer may vary according to the rate at which
underlying notes or receivables are prepaid; and
(7) In the case of a debt security that is a collateralized
mortgage obligation, the yield to maturity calculated on the basis of
the ``weighted average life'' of the security; the weighted average
life; and the prepayment assumption underlying this yield; and
(8) In the case of a transaction in a debt security, other than a
security defined under section 3(a)(42) (A) and (B) of this Act (15
U.S.C. 78(c)(a)(42) (A) and (B)), that the security is unrated by a
nationally recognized statistical rating organization, if such is the
case; and
(9) That the broker or dealer is not a member of the Securities
Investor Protection Corporation, or that the broker or dealer clearing
or carrying the customer account is not a member of the Securities
Investor Protection Corporation, if such is the case.
(b) Alternative periodic reporting. A broker or dealer may effect
transactions for or with the account of a customer without giving or
sending to such customer the written notification described in
paragraph (a) of this section if:
(1) Such transactions are effected pursuant to a periodic plan or
an investment company plan, or are effected in shares of any no-load
open-end investment company registered under the Investment Company Act
of 1940 that attempts to maintain a constant net asset value per share
and that holds itself out to be a ``money market'' fund or has an
investment policy calling for investment of at least 80% of its assets
in debt securities maturing in 13 months or less; and
(2) Such broker or dealer gives or sends to such customer within
five business days after the end of each quarterly period, for
transactions involving investment company and periodic plans, and after
the end of each monthly period, for other transactions described in
paragraph (c)(1) of this section, a written statement disclosing each
purchase or redemption, effected for or with, and each dividend or
distribution credited to or reinvested for, the account of such
customer during the month; the date of each such transaction; the
identity, number, and price of any securities purchased or redeemed by
such customer in each such transaction; the total number of shares of
such securities in such customer's account; any remuneration received
or to be received by the broker or dealer in connection therewith; and
that any other information required by paragraph (a) of this section
will be furnished upon written request: Provided, however, that the
written statement may be delivered to some other person designated by
the customer for distribution to the customer; and
(3) Such customer is provided with prior notification in writing
disclosing the intention to send the written information referred to in
paragraph (c)(1) of this section in lieu of an immediate confirmation.
* * * * *
(d) Definitions. For the purposes of this section:
* * * * *
(6) Investment company plan means any plan under which securities
issued by an open-end investment company or unit investment trust
registered under the Investment Company Act of 1940 are purchased by a
customer (the payments being made directly to, or made payable to, the
registered investment company, or the principal underwriter, custodian,
trustee, or other designated agent of the registered investment
company), or sold by a customer pursuant to:
* * * * *
(9) Collateralized mortgage obligation means any debt security with
two or more classes that:
(i) Requires payment to be made to holders of each class in
accordance with a schedule specifying the relative priorities of
payment to holders of all classes of the security;
(ii) Is secured by one or more mortgage notes or certificates of
interest or participations in such notes; and (iii) By its terms
provides for payments in relation to payments, or reasonable
projections of payments, on such mortgage notes or certificates of
interest or participations in such notes.
(10) Riskless principal transaction means a transaction in which a
dealer, after having received a buy order from a customer, purchases
the security as principal from another person to offset a
contemporaneous sale to such customer, or after having received a sell
order from a customer, sells the security as principal to another
person to offset a contemporaneous purchase from such customer.
* * * * *
3. By adding Sec. 240.15c2-13 to read as follows:
Sec. 240.15c2-13 Confirmation of municipal securities transaction.
(a) It shall be unlawful for any broker, dealer, or municipal
securities dealer, acting as principal for its own account, to effect
with the account of a customer any transaction in any municipal
security unless the broker, dealer, or municipal securities dealer, at
or before completion of the transaction, gives or sends to the customer
written notification disclosing:
(1) In the case of a riskless principal transaction, the difference
between the price to the customer and the dealer's contemporaneous
purchase (for customer purchases) or sale price (for customer sales);
and
(2) Whether the municipal security is unrated by a nationally
recognized statistical rating organization.
(b) For purposes of this section:
(1) Customer shall not include a broker, dealer, or municipal
securities dealer.
(2) Completion of the transaction shall have the meaning provided
in Sec. 240.15c1-1 of this section.
(3) Riskless principal transaction means a transaction in which a
dealer, after having received a buy order from a customer, purchases
the security as principal from another person to offset a
contemporaneous sale to such customer, or after having received a sell
order from a customer, sells the security as principal to another
person to offset a contemporaneous purchase from such customer.
By the Commission.
Dated: March 9, 1994.
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 94-5928 Filed 3-16-94; 8:45 am]
BILLING CODE 8010-01-M