Self-Regulatory Organizations; National Association of Securities Dealers, Inc. (n/k/a Financial Industry Regulatory Authority, Inc.); Notice of Filing of Proposed Rule Change and Amendment Nos. 1, 2, 3, and 4 Thereto, To Require Members To Provide Customers in TRACE-Eligible Debt Securities With Additional, Transaction-Specific Disclosures and To Notify Customers of the Availability of a Disclosure Document, 59321-59329 [E7-20601]
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Federal Register / Vol. 72, No. 202 / Friday, October 19, 2007 / Notices
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therefore, this provision does not make
sense in terms of how members perform
a fairness opinion evaluation.
In Amendment No. 4, FINRA stated
that the procedure required by the
Original Proposal was intended to guard
against potential conflicts of interest
between the member issuing the fairness
opinion and those insiders who may
stand to gain an economic benefit from
the transaction, and who generally are
in a position to make determinations
about which member will perform the
fairness opinion evaluation. In response
to comments, however, in Amendment
No. 4 FINRA deleted the procedures in
paragraph (b)(3) of the Original Proposal
and added the disclosure requirements
in paragraph (a)(6) to new Rule 2290.
The Commission finds that this
provision is responsive to comments
received and is consistent with the
Exchange Act, particularly Sections
15A(b)(6) and 15A(b)(9).
IV. Accelerated Approval of
Amendment No. 4 and Solicitation of
Comments
The Commission finds good cause to
approve Amendment No. 4 to the
proposed rule change prior to the
thirtieth day after the date of
publication of notice of filing of the
amendment in the Federal Register. The
proposed rule change was published in
the Federal Register on April 11, 2006.9
FINRA submitted Amendment No. 4 in
response to comments received on the
proposed rule change. The Commission
believes that Amendment No. 4 clarifies
the obligations of FINRA member firms.
Amendment No. 4 does not contain
major modifications that are more
restrictive than the scope of the
proposed rule change as published in
the Federal Register. The Commission
believes that approving Amendment No.
4 will provide greater clarity and
simplify compliance, thus furthering the
public interest and the investor
protection goals of the Exchange Act.
Finally, the Commission finds that it is
in the public interest to approve the
proposed rule change as soon as
possible to expedite its implementation.
Accordingly, the Commission believes
good cause exists, consistent with
Sections 15A(b)(6) and 19(b) of the
Exchange Act,10 to approve Amendment
No.4 to the proposed rule change on an
accelerated basis.
Interested persons are invited to
submit written data, views, and
arguments concerning Amendment No.
4, including whether Amendment No. 4
is consistent with the Act. Comments
9 See
10 15
supra note 3.
U.S.C. 78o–3(b)(6), and 78s(b).
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may be submitted by any of the
following methods:
Electronic Comments
• Use the Commission’s Internet
comment form (https://www.sec.gov/
rules/sro.shtml); or
• Send an e-mail to rulecomments@sec.gov. Please include File
Number SR–NASD–2005–080 on the
subject line.
Paper Comments
• Send paper comments in triplicate
to Nancy M. Morris, Secretary,
Securities and Exchange Commission,
100 F Street, NE., Washington, DC
20549–1090.
All submissions should refer to File
Number SR–NASD–2005–080. This file
number should be included on the
subject line if e-mail is used. To help the
Commission process and review your
comments more efficiently, please use
only one method. The Commission will
post all comments on the Commission’s
Internet Web site (https://www.sec.gov/
rules/sro.shtml). Copies of the
submission, all subsequent
amendments, all written statements
with respect to the proposed rule
change that are filed with the
Commission, and all written
communications relating to the
proposed rule change between the
Commission and any person, other than
those that may be withheld from the
public in accordance with the
provisions of 5 U.S.C. 552, will be
available for inspection and copying in
the Commission’s Public Reference
Room, 100 F Street, NE., Washington,
DC 20549, on official business days
between the hours of 10 a.m. and 3 p.m.
Copies of such filing also will be
available for inspection and copying at
the principal office of FINRA. All
comments received will be posted
without change; the Commission does
not edit personal identifying
information from submissions. You
should submit only information that
you wish to make available publicly. All
submissions should refer to File
Number SR–NASD–2005–080 and
should be submitted on or before
November 8, 2007.
V. Conclusion
It is therefore ordered, pursuant to
Section 19(b)(2) of the Exchange Act,11
that the proposed rule change (SR–
NASD–2005–080), as modified by
Amendment Nos. 1, 2, 3, and 4, be, and
hereby is, approved.12
11 15
12 17
PO 00000
U.S.C. 78s(b)(2).
CFR 200.30–3(a)(12).
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59321
For the Commission, by the Division of
Market Regulation, pursuant to delegated
authority.12
Florence E. Harmon,
Deputy Secretary.
[FR Doc. E7–20585 Filed 10–18–07; 8:45 am]
BILLING CODE 8011–01–P
SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–56661; File No. SR–NASD–
2005–100]
Self-Regulatory Organizations;
National Association of Securities
Dealers, Inc. (n/k/a Financial Industry
Regulatory Authority, Inc.); Notice of
Filing of Proposed Rule Change and
Amendment Nos. 1, 2, 3, and 4 Thereto,
To Require Members To Provide
Customers in TRACE-Eligible Debt
Securities With Additional,
Transaction-Specific Disclosures and
To Notify Customers of the Availability
of a Disclosure Document
October 15, 2007.
Pursuant to Section 19(b)(1) of the
Securities Exchange Act of 1934
(‘‘Act’’) 1 and Rule 19b–4 thereunder,2
notice is hereby given that on August
19, 2005, the National Association of
Securities Dealers, Inc. (‘‘NASD’’), n/k/
a Financial Industry Regulatory
Authority, Inc. (‘‘FINRA’’),3 filed with
the Securities and Exchange
Commission (‘‘SEC’’ or ‘‘Commission’’)
the proposed rule change as described
in Items I, II, and III below, which Items
have been prepared by FINRA.4 On
December 21, 2005, NASD filed
Amendment No. 1 to the proposed rule
change. On January 26, 2007, NASD
filed Amendment No. 2 to the proposed
rule change. On July 16, 2007, NASD
1 15
U.S.C. 78s(b)(1).
CFR 240.19b–4.
3 On July 26, 2007, the Commission approved a
proposed rule change filed by NASD to amend
NASD’s Certificate of Incorporation to reflect its
name change to FINRA, in connection with the
consolidation of the member firm regulatory
functions of NASD and NYSE Regulation, Inc. See
Securities Exchange Act Release No. 56146 (July 26,
2007), 72 FR 42190 (August 1, 2007).
4 Commission staff made certain changes to the
description of the proposed rule change with the
consent of FINRA staff to further clarify the
description, to reflect the organization’s name
change, and to make other changes incidental to the
consolidation during a telephone conversation
between Sharon Zackula, Associate Vice President
and Associate General Counsel, and James Eastman,
Assistant General Counsel, FINRA, and Joshua
Kans, Senior Special Counsel, and Kristina Fausti,
Special Counsel, Division of Market Regulation,
Commission, on March 20, 2007; telephone
conversations between Sharon Zackula and James
Eastman, and Kristina Fausti, on August 17, 2007,
and August 20, 2007, respectively; and a telephone
conversation between Sharon Zackula, and Josh
Kans and Kristina Fausti, on September 21, 2007.
2 17
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Federal Register / Vol. 72, No. 202 / Friday, October 19, 2007 / Notices
filed Amendment No. 3 to the proposed
rule change. On August 21, 2007,
FINRA filed Amendment No. 4 to the
proposed rule change. The Commission
is publishing this notice to solicit
comments on the proposed rule change,
as amended, from interested persons.
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I. Self-Regulatory Organization’s
Statement of the Terms of Substance of
the Proposed Rule Change
FINRA is proposing to: (1) Adopt
NASD Rule 2231, which would require
members, subject to specified
exceptions, to provide customers in
transactions in debt securities that are
TRACE-eligible securities, as defined in
NASD Rule 6210(a), with additional,
transaction-specific disclosures relating
to applicable charges, credit ratings, the
availability of last-sale transaction
information, and certain interest, yield
and call provisions; and (2) amend
NASD Rule 2340 (customer account
statements) to require members to notify
certain customers of the availability of
a disclosure document discussing debt
securities authored by FINRA and
deliver the document to customers upon
request. The text of the proposed rule
change and the associated disclosure
document are set forth below. Proposed
new language is in italics; proposed
deletions are in brackets.
2231. Confirmation of Transactions in
Debt Securities
(a) Confirmation of Transactions in
Debt Securities.
(1) Except as otherwise provided
herein, any member that is required to
disclose to a customer information
pursuant to Rule 10b–10 under the Act
in connection with any transaction in a
debt security also shall, with respect to
any TRACE-eligible security, disclose to
the customer, other than an institutional
account, the information set forth in
paragraph (b). Except as otherwise
provided herein, this information shall
be disclosed in the same manner and at
the same time in which the member
discloses to the customer information in
connection with the transaction
pursuant to Rule 10b–10 under the Act.
A member need not disclose to
customers information required to be
disclosed under this Rule if the member
discloses such information pursuant to
Rule 10b–10 under the Act.
(2) For purposes of this Rule:
(A) ‘‘Institutional account’’ shall have
the same meaning it has in Rule 3110
and means an account that, within the
past twelve months, the member has
determined is an institutional account;
(B) ‘‘Debt security’’ shall have the
same meaning it has in Rule 10b–10
under the Act, except that any
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exempted security or asset-backed
security is excluded from this definition;
(C) ‘‘Exempted security’’ shall have
the same meaning it has in Section
3(a)(12) of the Act;
(D) ‘‘Asset-backed security’’ shall
have the same meaning it has in Rule
10b–10 under the Act;
(E) ‘‘Nationally recognized statistical
rating organization’’ (‘‘NRSRO’’) shall
have the same meaning it has in Rule
15c3–1 under the Act;
(F) ‘‘Clearing member’’ shall have the
same meaning it has in Rule 3230;
(G) ‘‘Service bureau’’ shall have the
same meaning it has in IM–4632–1
under Rule 4632; and
(H) ‘‘TRACE-eligible security’’ shall
have the same meaning it has in Rule
6210(a).
(b) Information Required To Be
Disclosed
(1) Debt security information. A
member must disclose the debt
security’s CUSIP number and the
TRACE symbol of the debt security if
one has been designated by NASD.
(2) Broker-dealer charges. A member
must disclose, if acting as principal, the
following: ‘‘The broker-dealer’s
remuneration on this transaction has
been added to the price in the case of
a purchase or deducted from the price
in the case of a sale.’’
(3) Credit rating. A member must
disclose the lowest credit rating(s) it has
received at the time the transaction
confirmation is generated, the date of
such credit rating(s), and the NRSRO(s)
assigning the credit rating(s) of the debt
security the member purchased for or
from or sold to or for a customer, if:
(A) The member has entered into a
written agreement with the NRSRO to
receive such credit rating(s);
(B) A service bureau that provides
confirmation services to the member for
the transaction has entered into a
written agreement with the NRSRO to
receive such credit rating(s) and
provides them to the member as part of
the confirmation services at no
additional cost; or
(C) A member that acts as a clearing
member for, and provides confirmation
services to, the member for the
transaction has entered into a written
agreement with the NRSRO to receive
such credit rating(s) and provides them
to the member as part of the
confirmation services at no additional
cost.
(4) Indicators of marketability and
liquidity. A member must disclose that
transaction price information for the
securities subject to this Rule is publicly
available on the Internet at https://
www.bondinfo.com for the customer’s
non-commercial use at no charge, or at
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other sources that provide such
information.
(5) Cash flow information. For
purchases only, a member must disclose
on a per debt security basis the
following:
(A) The frequency of interest and/or
principal payments as applicable, if
either are paid on a periodic, fixed
schedule. If the debt security does not
pay interest or principal on a regular
schedule, a member must disclose the
following: ‘‘This security does not pay
interest or principal on a regular
schedule. Information regarding the
frequency of interest or principal
payments for this security will be
furnished to you upon written request.’’
A member shall provide such additional
information in writing within three
business days of receiving a customer’s
written request, or within ten business
days if such a request is received more
than six months after the transaction’s
settlement date.
(B) Yield to maturity, and, if the debt
security is subject to call prior to
maturity through any means, a notation
of ‘‘callable’’ shall be included. The
date and price of the next pricing call
shall be included and so designated. If
the debt security is continuously
callable (i.e., callable on any date after
the first call date), a member must
disclose the following: ‘‘This security is
continuously callable.’’ If there are any
call features in addition to the next
pricing call, a member must disclose the
following: ‘‘Additional call features exist
that may affect yield; additional
information will be furnished to you
upon written request.’’ A member shall
provide such additional information in
writing within three business days of
receiving a customer’s written request,
or within ten business days if such a
request is received more than six
months after the transaction’s
settlement date.
(C) For debt securities carrying a
variable coupon rate, a member must
disclose the following: ‘‘The coupon rate
may vary. Additional information that
describes the way in which the debt
security’s interest and principal
payments are calculated will be
furnished to you upon written request.’’
A member shall provide such additional
information in writing within three
business days of receiving a customer’s
written request, or within ten business
days if such a request is received more
than six months after the transaction’s
settlement date. Any such additional
information shall contain:
(i) The amount of the next interest
payment based on the current coupon
rate,
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(ii) A statement that this amount will
change if the coupon rate changes
(iii) How often the coupon rate may be
recalculated,
(iv) An explanation of the event(s)
that may trigger the recalculation, and
(v) The formula for recalculating such
coupon rate.
(D) For debt securities that are
callable and, at issuance, are not
structured to include scheduled interest
payments (e.g., ‘‘zero coupon bonds’’),
the dollar equivalent of the debt
security’s imputed interest until the next
occurring call date (assuming that the
price at which the debt security may be
called is paid to the holder).
*
*
*
*
*
2340. Customer Account Statements
(a)–(d) No change.
(e) Notice of Availability of NASD
Disclosure on Debt Securities
(1) Except as otherwise provided in
subparagraph (2) below, a member that
has provided a customer disclosure
under Rule 2231 during the period since
the last account statement was sent to
the customer also must disclose the
following: ‘‘A disclosure document
discussing your rights as a bondholder
and some of the risks related to buying
and holding bonds, titled ‘Important
Information You Need to Know About
Investing in Corporate Bonds,’ has been
prepared by NASD and is available
online at www.finra.org. A paper
version of this document is available
from your broker upon your written
request.’’
(2) In lieu of disclosing the internet
Web site address ‘‘www.finra.org’’ in the
statement set forth in subparagraph (1),
a member may disclose the member’s
internet Web site address, provided that
the document, ‘‘Important Information
You Need to Know About Investing in
Corporate Bonds,’’ or an internet
hyperlink directly thereto, is easily
accessible from the internet address that
is disclosed.
(3) A member shall provide the
document, ‘‘Important Information You
Need to Know About Investing in
Corporate Bonds,’’ to any customer to
whom a statement is provided pursuant
to subparagraph (1) within three
business days of receiving a customer’s
written request, or within ten business
days if such a request is received more
than six months after the transaction’s
settlement date. This document
provides information that an investor
should know immediately prior to
buying or selling a bond such as the
basics of bond pricing, yield, and the
difference between yield to maturity and
yield to call. It also describes certain
risks that bond investors assume in such
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transactions (e.g., interest rate risk and
liquidity risk). This document also
contains a short description of basic
types of bonds (e.g., floating rate bonds,
zero coupon bonds and convertible
bonds) as well as debt structure (e.g.,
junior or subordinated debt). Finally it
informs investors that even if they are
not charged a commission they are
nevertheless paying a fee to their brokerdealer when they buy or sell bonds.
[(e)](f) Exemptions
Pursuant to the Rule 9600 Series, the
Association may exempt any member
from the provisions of this Rule for good
cause shown.
*
*
*
*
*
Important Information You Need to
Know About Investing in Corporate
Bonds
This document is intended to provide
you with some basic facts about the
most common features of corporate
bonds, and to alert you to some of the
risks associated with buying, selling,
and holding corporate bonds.
As with any investment, before buying
a corporate bond, you should analyze
the bond on its own merits, weighing its
risks, costs, and rewards. Consult with
your firm about any questions you may
have about investing in a particular
bond.
Corporate Bond Basics
What Is a Corporate Bond?
Corporate bonds are, at their simplest,
loans that investors make to public and
private corporations. Consequently,
bonds are referred to as debt securities.
Corporations generally issue corporate
bonds to raise money for capital
expenditures, operations, and
acquisitions.
Typically, bondholders receive
interest payments during the term of a
bond (or, for as long as a bondholder
owns a bond), at the stated interest
rate—also called the coupon rate. In
addition, if bondholders hold bonds
until maturity, they also are repaid the
principal amount, called par value or
face amount.
Bond Price and Yield
Price
If you sell a bond before it matures,
you may not receive the full principal
amount of the bond. This is because a
bond’s price is not based on the par
value of the bond. Rather, it is set in the
secondary market and is established by
the current market values of such
bonds, which may be more or less than
the amount of principal the issuer
would be required to pay the
bondholder at maturity. Therefore, it is
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59323
impossible to predict in advance the
price that a bondholder will receive if
the bondholder purchases a bond and
later sells the bond before maturity.
The price of a bond is often above or
below its par value because the price is
adjusted according to current interest
rates in the whole market for the same
debt security and comparable debt
securities. For example, if the bond you
desire to purchase has a coupon rate of
8 percent, and similar quality new
bonds available for sale have a coupon
rate of 5 percent, you will have to pay
more than the par amount of the bond
that you intend to purchase, because
you will receive more interest income
than the current coupon rate (5 percent)
being attached to similar bonds. (A
bond’s coupon rate is the rate of interest
paid periodically on the face amount of
the obligation.)
Yield
Yield is the overall return on the
capital you invest in the bond. Yield is
similar to, but different from, a bond’s
coupon rate. This distinction is
important, because as is explained
above, while a bond’s face amount or
par value is fixed, its market value
almost always changes over time.
Because bond prices fluctuate
continually in the market, the yield your
bond investment will provide if it is sold
prior to maturity also changes
constantly. A bond’s price is inversely
related to its yield. As a bond’s price
increases, its associated yield decreases;
as the price of a bond decreases, the
associated yield increases.
For example, a bond that sells today
for $1,000 and has a coupon rate of 8
percent has a current yield of 8 percent.
Because the ‘‘price’’ equals the face
amount of the bond, the current yield of
8 percent equals the 8 percent coupon
rate. However, usually after the first sale
of a bond, the price of a bond differs
from the face amount. For example, if
the same bond sells tomorrow for $990,
the current yield would be slightly
higher than 8 percent.
Yield to Maturity and Yield to Call:
What’s the Difference?
Yield to maturity is calculated by
taking into account the total amount of
interest you will receive over time, your
purchase price (the amount of capital
you invested), the face amount (or other
amount you will be paid when the issuer
‘‘redeems’’ the bond), the time between
interest payments, and the time
remaining until the bond matures.
If you hold a callable bond, another
type of yield calculation, yield to call,
also is important for you to understand.
This calculation takes into account the
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impact on a bond’s yield if it is called
prior to maturity and is often done using
the first date on which the issuer could
call the bond. (Other call dates may be
used in specified circumstances.) A
bond’s yield to call may be lower than
its yield to maturity.
To get a more accurate picture of
what a bond will cost you or what you
received for it, you should also ask your
broker to calculate the yield adjusting
the purchase price up (when you
purchase) or down (when you sell) by
the amount of the mark-up or
commission (when you purchase) or
mark-down or commission (when you
sell) and other fees or charges that you
are charged by your broker for its
services. This is called yield reflecting
broker compensation.
Corporate Bond Risks
Like virtually all investments,
corporate bonds carry risk. It is
important that you fully understand the
risks of investing in corporate bonds.
These risks include:
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Interest Rate Risk
When interest rates rise, bond prices
fall, and when interest rates fall, bond
prices rise. Interest rate risk is the risk
that changes in interest rates generally
in the U.S. or the world economy may
reduce (or increase) the market value of
a bond you hold. Interest rate risk
increases the longer that you hold a
bond. For example, if interest rates rise
throughout the economy, bond issuers,
along with other borrowers, will need to
offer potential bondholders higher rates
to compete with the higher interest rates
available elsewhere.
Any bonds issued in a period of rising
interest rates generally will carry higher
coupon rates, which will be more
attractive to potential bondholders than
the coupon rate paid by bonds issued
before the rise in interest rates. This
decreased appetite for older bonds that
pay lower interest depresses their price
in the secondary market, which would
translate into your receiving a lower
price for your bonds if you chose to
resell them in a period of rising interest
rates. The opposite holds true as well,
and the market value of older bonds
that pay higher than current interest
rates tends to rise in periods where
interest rates are generally declining.
Call and Reinvestment Risk
Bonds with a call provision can be
redeemed or ‘‘called’’ by the bond
issuers, requiring bondholders to
redeem their bonds at the call price well
before their maturity dates. Bonds often
are called when market interest rates
are falling, because bond issuers want to
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refinance their debt at lower interest
rates (similar to when a home owner
seeks to refinance a mortgage at a lower
rate when mortgage interest rates
decrease). This is known as call risk.
With a callable bond, a bondholder
might not receive the bond’s coupon
rate for the entire term of the bond, and
it might be difficult or impossible to find
an equivalent investment paying rates
as high as the called bond. This is
known as reinvestment risk.
Additionally, at any given point in time,
the period that a callable bond will
generate cash flow is uncertain. This
risk will be reflected in a lower market
value for the bond because any
appreciation in the value of the bond’s
periodic interest payments may not be
fully realized if it is ‘‘called away’’ by its
issuer.
Refunding Risk and Sinking Funds
Provisions
A sinking fund provision, which often
is a term included in bonds issued by
industrial and utility companies,
requires a bond’s issuer to retire a
certain number of bonds periodically.
This can be accomplished in a variety
of ways, including through purchases in
the secondary market or forced
purchases directly from bondholders at
a pre-determined price.
Holders of bonds subject to sinking
fund redemptions should understand
that they risk having their bonds called
(or redeemed) prior to maturity. Unlike
other bonds subject to call, depending
on the sinking fund provision, there may
be a relatively high likelihood that the
issuer will redeem some or many of the
bonds prior to maturity, even if marketwide interest rates do not change.
It is important to understand that
there is no guarantee that an issuer of
these bonds will be able to comply
strictly with any redemption
requirements. In certain cases, an issuer
may need to borrow funds or issue
additional debt to refinance an
outstanding bond issue subject to a
sinking fund provision when it matures.
If the issuer is unable to raise adequate
funds to refinance the outstanding
issue, the issuer could default and the
bondholder could lose all or most of his/
her investment.
Default and Credit Risk
If you ever loaned money to someone,
chances are you gave some thought to
the likelihood of being repaid. Some
loans are riskier than others. The same
is true when you invest in bonds. You
are taking a risk that the issuer’s
promise to repay both principal and
interest will not be upheld. In the case
of Treasuries and other government-
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issued bonds backed by the ‘‘full faith
and credit of the U.S. government,’’ that
risk is almost zero. However, there is
some risk of default with corporate
bonds. This means the corporations
issuing them may either be late paying
bondholders or—in worst-case
scenarios—be unable to pay at all.
Bond ratings are a way of measuring
default and credit risk. Bond ratings are
issued by private companies called
credit rating agencies. In issuing a credit
rating, a credit rating agency reviews
relevant information supplied to it by
the issuer or its agents, and from
sources the credit rating agency
considers reliable, including financial
information such as the issuer’s
financial statements, and assigns a
rating (for example, AAA (or Aaa) to D).
Generally, bonds are categorized in
two broad categories—investment grade
and non-investment grade. Bonds that
are rated BBB (or Baa) or higher are
considered investment grade. Bonds
that are rated BB (or Ba) or lower are
non-investment grade. Non-investment
grade bonds are also referred to as highyield or junk bonds, and in some cases,
distressed bonds. These bonds are
considered riskier investments because
the issuer’s general financial condition
is less sound, and the issuer may
default—(may not be able to pay the
interest and principal to bondholders
when they are due).
Many bondholders heavily weigh the
rating of a particular corporate bond in
determining if the corporate bond is an
appropriate and suitable investment for
them. Although credit ratings are an
important indicator of creditworthiness,
you should also consider that the value
of the bond might change depending on
changes in the company’s business and
profitability. The credit rating could be
revised downward. In the worst
scenario, if you own a bond and the
company that issues it defaults you
could lose all of your investment.
Finally, some bonds are not rated. In
such cases, an individual bondholder
may find it difficult to assess the overall
creditworthiness of the issuer of the
bond.
Liquidity Risk
You should determine whether the
bond in which you are interested has
traded frequently, infrequently, or not at
all in recent months, and if your broker
regularly buys and sells the bond. While
certain bonds are very actively traded
and are relatively ‘‘liquid,’’ other bonds,
including many high-yield bonds, are
traded much less frequently or not at all
and may not be easy to sell. If you think
you might need to sell the bonds you are
purchasing prior to their maturity, you
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should carefully consider the likelihood
of your being able to do so, and whether
your broker will be able and willing to
assist you in liquidating your
investment at a fair price reasonably
related to then current market prices. It
is possible that you may be able to resell a bond only at a heavy discount to
the price you paid (loss of some
principal) or not at all. Additionally,
bonds that are less frequently traded
may be subject to wider ‘‘spreads’’ in the
secondary market, which means that
you would receive less for your bond if
selling, or pay more if buying, than
otherwise would be the case.
Corporate Bonds with Special Features
It also is important to understand any
special features a bond may have before
you buy, since these features may affect
risk.
Floating Rate Bonds
Floating-rate bonds have a floating or
variable interest rate that is adjusted
periodically, or floats, using an external
value or measure (for example, the
prime rate or a stock index). Such bonds
offer protection against interest rate
risk, but their coupon rate is usually
lower than those of fixed-rate bonds.
Guaranteed and Insured Bonds
Certain bonds may be referred to as
guaranteed or insured. This means that
a third party has agreed to make the
bond’s interest and principal payments
if the issuer is unable to make these
payments. You should keep in mind
that such guarantees only are as
valuable as the creditworthiness of the
third party making the guarantee or
providing the insurance.
Convertible Bonds
Convertible bonds may be converted
into the stock of the bond’s issuer. A
bondholder should be careful to
understand the conditions under which
the bonds may be converted, as this
right often is contingent upon the
issuer’s stock reaching a certain price
level, among other things. Bond
investors also should ask their broker or
financial adviser whether there is any
charge or fee associated with making a
conversion.
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Zero-Coupon Bonds
Zero-coupon bonds, unlike other
bonds, don’t make regular interest
payments. Instead, the bondholder buys
the bond at a discount from the face
value of the bond, and, when the bond
matures, the issuer repays the
bondholder the face amount. The
difference between the discounted
amount the bondholder pays upon
purchase and the face amount later
received is the imputed interest.
Because zero-coupon bonds don’t pay
any interest until maturity, their prices
may be more volatile than other bonds
with similar maturities that pay interest
periodically.
Junior or Subordinated Bonds
The more junior bonds issued by a
company typically are referred to as
subordinated debt, because a junior
bondholder’s claim for repayment of the
principal of such bonds has a lower
priority than the claims of a bondholder
holding an issuer’s more senior debt.
Therefore, in the event of a bankruptcy,
junior bondholders receive payment
only after senior debt claims are paid in
full. Additionally, other types of claims
also may have priority on the issuer’s
remaining assets over the claims of all
bondholders (e.g., certain supplier or
customer claims). Therefore, although
bondholders generally are paid prior to
stockholders in a bankruptcy
proceeding, this doesn’t mean the
bondholder will get any money back
because the issuer’s assets could be
reduced to zero by other creditors that
have the right to be paid before
bondholders.
Secured Bonds
Secured bonds are backed by
collateral that the bond’s issuer has
agreed to sell if it otherwise is unable to
meet its obligation when the bond
matures. For example, a bond might be
backed by a specific factory or
industrial equipment. However, any
such backing is only as good as the
value of the asset being used as
collateral, the value of which can
decrease during the term of the bond.
Bonds that are not backed by any
collateral are unsecured and are
sometimes called debentures.
Debentures are backed solely by an
issuer’s promise to repay you. Most
corporate bonds are debentures.
Broker Compensation for Selling Bonds
No Commission does not Mean No
Charge.
You should understand that your
broker is being compensated for
performing services for you, even if you
are not charged a commission when you
buy or sell a bond. In most bond
transactions, brokers are compensated,
even though a commission charge is not
disclosed, because the transaction is
structured as a principal transaction
(i.e., your broker sells you a bond it
already owns). This is because when a
dealer sells you a bond in a principal
capacity, the dealer increases or marks
up the price you pay over the price the
dealer paid to acquire the bond. The
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mark-up is the dealer’s compensation
and is similar to a commission.
Similarly, if you sell a bond, a dealer
will offer you a price that includes a
mark-down from the price that the
dealer believes he can sell the bond to
another dealer or another buyer. You
should understand that the firm has
charged you a fee for its services.
Would a Similar Bond Cost Less?
Finally, it is important to consider the
potential conflicts that your broker
might have when it sells you a bond.
Bonds issued by different issuers often
have very similar risk profiles and carry
similar coupon rates. Before you buy a
bond, you should shop around and
consider if there are other bonds that
you could buy at a cheaper price than
the one recommended by your broker.
You should consider whether there are
other bonds available with similar risk/
return profiles that might be available at
lower cost. You also should try and
understand how your broker is being
compensated for any bond transaction,
particularly those that are
recommended to you where similar
bonds may be available.
*
*
*
*
*
II. Self-Regulatory Organization’s
Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
Change
In its filing with the Commission,
FINRA included statements concerning
the purpose of and basis for the
proposed rule change and discussed any
comments it received on the proposed
rule change. The text of these statements
may be examined at the places specified
in Item IV below. FINRA has prepared
summaries, set forth in sections A, B,
and C below, of the most significant
aspects of such statements.
A. Self-Regulatory Organization’s
Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
Change
1. Purpose
Background
With the implementation of FINRA’s
Trade Reporting and Compliance Engine
(‘‘TRACE’’) in 2002 and the subsequent
availability of a consolidated view of
transaction information in the U.S.
corporate bond market, a number of
trends have emerged that have
implications for the regulatory
framework of the corporate debt market.
For example, approximately 65% of
TRACE transactions are for amounts of
less than $100,000, indicating
significant individual investor
participation in the corporate bond
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market.5 FINRA believes that helping
investors to understand some of the key
characteristics of particular bonds that
they are buying or selling as well as the
key risks associated with bond investing
is an important element of its efforts to
enhance transparency in the corporate
debt market. FINRA also believes that
the proposed rule change will further
efficiency, competition, and capital
formation in the market for corporate
debt securities. In particular, FINRA
anticipates that the proposed rule
change, by providing greater
transparency to debt securities
transactions, will result in greater
efficiency in pricing and further
competition in the market for corporate
debt securities. FINRA believes the
proposed rule change also will enhance
capital formation to the extent that
investors are better able to assess the
risks and benefits related to investing in
corporate debt securities.6
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Proposed Disclosures
Proposed NASD Rule 2231 would
require members, subject to certain
exceptions,7 to provide customers in
5 See NASD Notice to Members 05–21 (April
2005); see also Report of the Corporate Debt Market
Panel, September 2004, https://www.finra.org/web/
groups/reg_systems/documents/regulatory_systems/
p011445.pdf (‘‘Panel Report’’). The Corporate Debt
Market Panel (‘‘Panel’’) was a group of twelve
experts in the fixed income area appointed by the
NASD Board of Governors to make
recommendations to NASD regarding how best to
ensure market integrity and investor protection in
the corporate bond market. The Panel reviewed
information showing significant levels of
participation by individual investors in the
corporate bond market. For example, the Panel
Report notes that information obtained from TRACE
shows that approximately ‘‘two thirds of corporate
bond transactions reported to TRACE are in
quantities of $100,000 or less in value, a size widely
viewed as representative of individual investor
activity.’’ Panel Report at 4. The Panel also
reviewed NASD surveys showing that individual
investors often do not understand certain key
structural aspects of specific bonds or the market
in which bonds are traded. For example, 34% of
individuals surveyed did not believe that they were
paying a fee for buying or selling a bond and
approximately 60% of investors surveyed did not
understand that bond prices generally fall as
interest rates rise. Panel Report at 4. The Panel
concluded that individual investors would benefit
from additional guidance and information
disclosure, and recommended, among other things,
that investors obtain improved access to
information on bonds and receive increased
disclosures regarding their bond transactions. The
proposed rule change is based on the Panel’s
recommendations and also reflects significant input
from other NASD advisory committees, such as
NASD’s Fixed Income Committee.
6 See generally Panel Report.
7 Proposed NASD Rule 2231’s disclosures would
not be required to be provided to institutional
accounts, and proposed NASD Rule 2231 would not
apply to transactions in asset-backed or exempted
securities. ‘‘Institutional account’’ would have the
same meaning it has in NASD Rule 3110(c)(4).
‘‘Asset-backed security’’ would have the same
meaning it has in Rule 10b–10(d)(10) under the Act.
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TRACE-eligible securities transactions,8
with additional transaction-specific
disclosures relating to applicable
charges, credit ratings, the availability of
last-sale transaction information, and
certain interest, yield and call
provisions.9 These disclosures would
have to be provided in the same manner
and at the same time in which a brokerdealer discloses information under Rule
10b–10.10
FINRA believes that the information
in the proposed disclosures generally is
of the type that currently is included in
confirmations of transactions in various
types of securities (e.g., municipal
securities). While the disclosures
proposed by FINRA are narrowly
See 17 CFR 240.10b–10. ‘‘Exempted security’’
would have the same meaning it has in Section
3(a)(12) of the Act (15 U.S.C. 78c(a)(12)). See
paragraphs (a)(2)(A), (a)(2)(D) and (a)(2)(C) of
proposed NASD Rule 2231, respectively.
8 Proposed NASD Rule 2231 only would apply to
a transaction in a ‘‘debt security’’ that also is a
‘‘TRACE-eligible security,’’ which would have the
same meaning it has in NASD Rule 6210(a). See
proposed NASD Rule 2231(a)(2)(H). Debt security
would have the same meaning it has under Rule
10b–10 under the Act except that it would not
include any asset-backed security or exempted
security. See Proposed NASD Rule 2231(a)(2)(B).
9 Under proposed NASD Rule 2231(a) members
would not be required to make any of the
disclosures, which are specified in proposed
paragraph (b), that are duplicative of disclosures
already required under SEC Rule 10b–10 for that
transaction. Proposed NASD Rule 2231(a)(1). Also,
under proposed NASD Rule 2231(a), unless
otherwise provided, the information would be
required to be disclosed in the same manner (e.g.,
frequency) and at the same time in which the
member discloses information to the customer
about the specific debt transaction pursuant to SEC
Rule 10b–10. Id. For example, the Commission has
provided exemptive relief to broker-dealer sponsors
of ‘‘wrap fee programs’’ to permit those brokerdealers to confirm transactions in their wrap fee
programs through periodic statements, not less
often than quarterly (subject to several conditions),
in lieu of immediate trade confirmations that
otherwise would be required under SEC Rule 10b–
10. Money Management Institute, Securities
Industry Association, SEC No-Action Letter, 1999
SEC No-Act Lexis 934 (August 23, 1999). FINRA
would defer to SEC and SEC staff interpretations of
SEC Rule 10b–10 when interpreting proposed
NASD Rule 2231’s delivery requirements, and
members properly relying upon such
interpretations for purposes of satisfying SEC Rule
10b–10’s delivery requirements also would be
deemed to satisfy proposed NASD Rule 2231’s
delivery requirements. If the SEC approves the
proposed Rule, FINRA would provide guidance in
this area only in instances where the SEC or its staff
has not already addressed a particular issue.
10 Proposed NASD Rule 2231(a)(1). However,
FINRA would not interpret proposed NASD Rule
2231 as requiring members to provide the required
supplemental disclosures on the same piece of
paper or in the same electronic document (if the
confirmation is provided electronically) as that
containing the SEC Rule 10b–10 confirmation,
because FINRA believes such requirements could
be unwieldy without materially enhancing investor
protection. Nevertheless, FINRA anticipates that the
supplemental disclosures of proposed NASD Rule
2231 and the confirmation disclosures required by
SEC Rule 10b–10 would be delivered
simultaneously.
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tailored to the specific concerns that
have been raised regarding confirmation
disclosure in TRACE-eligible securities
transactions, FINRA has identified
where analogous disclosures are today
required. The specific additional
disclosures would include the security’s
CUSIP 11 number and its TRACE
symbol 12 to assure that the transaction
is identified as clearly as possible. A
member acting as principal would be
required to disclose, if applicable, a
statement relating to transaction
charges.13 This standard disclosure is
intended to clarify for investors who are
dealing with a member acting as a
principal, in the capacity of either a
dealer or market maker, whether the
member has obtained any remuneration
in connection with the customer’s debt
securities transaction. FINRA is not
proposing to require that the amount of
the member’s mark-up or mark-down be
11 Proposed NASD Rule 2231(b)(1). ‘‘CUSIP’’
stands for Committee on Uniform Securities
Identification Procedures. According to FINRA,
CUSIP numbers belong to Standard and Poor’s, a
division of the McGraw-Hill Companies, Inc.
(‘‘S&P’’). S&P licenses to FINRA the use of the terms
‘‘Committee on Uniform Securities Identification
Procedures’’ and ‘‘CUSIP.’’ See Municipal
Securities Rulemaking Board (‘‘MSRB’’) Rule G–
15(a)(i)(B)(2) (requires disclosure of a security’s
CUSIP number); cf. SEC Rule 10b–10(a)(1) (requires
disclosure of a security’s ‘‘identity’’).
12 Proposed NASD Rule 2231(b)(1). The TRACE
symbol allows retail investors tomore easily
identify the TRACE-eligible security as to the
issuer. See SEC Rule 10b–10(a)(1) (requires
disclosure of a security’s ‘‘identity’’); cf. MSRB Rule
G–15(a)(i)(B)(1)(a) (for stripped coupon securities,
requires confirmation disclosure of a security’s
‘‘trade name and series designation’’); MSRB Rule
G–15(a)(i)(B)(1)(b) (for municipal fund securities,
requires confirmation disclosure of ‘‘the name used
by the issuer to identify such securities and, to the
extent necessary to differentiate the securities from
other municipal fund securities of the issuer, any
separate program series, portfolio or fund
designation for such securities must be shown.’’).
13 Proposed NASD Rule 2231(b)(2). The required
disclosure for principal transactions, if applicable,
would be ‘‘the broker-dealer’s remuneration on this
transaction has been added to the price in the case
of a purchase or deducted from the price in the case
of a sale.’’ Id.; cf. SEC Rule 10b–10(e)(1)(ii) (a broker
or dealer that effects ‘‘any transaction’’ for a
customer in security futures products in a futures
account must disclose ‘‘the source and amount of
any remuneration received or to be received * * *
including, but not limited to, markups,
commissions, costs, fees, and other charges
incurred in connection with a transaction* * * .’’);
SEC Rule 10b–10(a)(2)(ii) (in certain circumstances
a non-market maker acting as principal for its own
account is required to disclose the ‘‘difference
between the price to the customer and the dealer’s
contemporaneous purchase (for customer
purchases) or sale price (for customer sales)’’); SEC
Rule 10b–10(a)(2)(i) (must disclose capacity, and,
when acting as agent for the customer, some other
person, or for both the customer and some other
person, the ‘‘amount of any remuneration received
or to be received* * * .’’ under SEC Rule 10b–
10(a)(2)(i)(B)); MSRB Rule G–15(a)(i)(A)(1)(e)
(requires, in certain cases, certain disclosures
regarding the broker-dealer’s remuneration in the
transaction).
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disclosed because, under SEC Rule 10b–
10, in debt securities transactions, an
agency commission is required to be
disclosed, but a principal’s mark-up or
mark-down is not. Under certain
circumstances a member would be
required to disclose the credit rating of
the security and the Nationally
Recognized Statistical Rating
Organization (‘‘NRSRO’’) assigning it
the rating.14 A member that subscribes
to more than one NRSRO (or otherwise
is provided credit ratings as described
previously) and has more than one
credit rating for a security, would be
required to provide the lowest of such
credit ratings to the customer.15 A
member would be required to disclose
the credit rating if it, or the clearing firm
or service bureau providing
confirmation services to the member on
the transaction, has entered into a
written agreement with a rating agency
to receive such credit ratings, and, in
the case of a clearing firm or service
bureau, those ratings are made available
to the member for inclusion on the
transaction confirmation at no
additional cost.16 A member would be
14 Proposed NASD Rule 2231(b)(3); cf. SEC Rule
10b–10(a)(8) (requires disclosure that a debt
security is unrated by an NRSRO, if applicable);
MSRB Rule G–15(a)(i)(C)(3)(f) (requires disclosure
that a debt security is unrated by an NRSRO, if
applicable). Pursuant to the Credit Rating Agency
Reform Act of 2006 and Commission rules
thereunder, on June 28, 2007, the Commission
announced that seven credit rating agencies applied
to be registered with the Commission as NRSROs
and could continue to represent themselves or act
as NRSROs during Commission consideration of
their applications. See SEC Press Release 2007–124
(June 28, 2007). The seven credit agencies are: A.M.
Best Company, Inc., Dominion Bond Rating Service
Limited, Fitch, Inc., Japan Credit Rating Agency,
Ltd., Moody’s Investors Service, Rating and
Investment Information, Inc., and Standard and
Poor’s Rating Services. In issuing a credit rating,
these organizations review relevant information
supplied to them by the issuer or its agents, and
from sources they consider reliable, including
financial information such as the issuer’s financial
statements, and assign a rating, for example AAA
(Aaa) to D.
15 Proposed NASD Rule 2231(b)(3).
16 It is FINRA’s understanding that certain large
clearing firms offer to disclose on a correspondent
firm’s transaction confirmation a ‘‘menu’’ of items
for a fixed fee and that credit rating information
typically is included as one of these menu items.
FINRA noted in NASD Notice to Members 05–21
that, if the current proposal were adopted, FINRA
would monitor the percentage of firms that
subscribe to and disclose NRSRO ratings and would
consider the advisability of mandating at least one
subscription to an NRSRO if a uniform practice of
disclosing NRSRO ratings did not arise. For
example, FINRA might consider such an approach
if the proposed Rule were adopted and FINRA
became aware that member firms were seeking to
avoid disclosing NRSRO ratings by paying their
clearing firms or service bureaus a separate,
nominal charge to receive such ratings to
circumvent the requirement in proposed NASD
Rule 2231(b)(3)(B) and (C) that requires a member
to make such disclosures only if the member
receives NRSRO ratings from its clearing firm ‘‘at
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required to disclose the credit rating it
has received at the time the transaction
confirmation is generated 17 as well as
the date applicable to the credit rating.
A member also would be required to
disclose that transaction price
information is publicly available for the
security, and that a customer may obtain
such information at the FINRA internet
web site https://www.bondinfo.com for
the customer’s non-commercial use at
no charge, or at other sources that
provide such information, such as the
Web site, investinginbonds.com.18
For customer purchases only,
members would be required to provide
the frequency of interest and/or
principal payments as applicable, if
either are paid on a periodic, fixed
schedule.19 If the debt security does not
pay interest or principal on a regular
schedule, the member must disclose the
following: ‘‘This security does not pay
interest or principal on a regular
schedule. Information regarding the
frequency of interest or principal
payments for this security will be
furnished to you upon written
request.’’ 20 Yield to maturity would be
required to be disclosed and, if the debt
security is subject to call prior to
maturity through any means, a notation
of ‘‘callable’’ also would be required to
be included.21 The date and price of the
no additional cost.’’ Finally, a member that receives
credit rating information and whose clearing firm
also receives credit rating information would be
permitted to choose which credit ratings to disclose
so long as the credit rating was the lowest of the
ratings it receives.
17 Proposed NASD Rule 2231(b)(3). This
provision has been revised in response to SEC staff
comments and industry feedback and is intended to
minimize the costs and operational burdens faced
by members complying with this requirement.
Members now would be permitted to use the lowest
credit rating they have received or may receive as
part of the confirmation preparation process.
Members would not be required to disclose the
credit rating available at the time a transaction is
executed, which was initially proposed by FINRA
in SR–NASD–2005–100.
18 Proposed NASD Rule 2231(b)(4). Most
transactions in TRACE-eligible securities, as well as
other debt securities, are executed in the over-thecounter market; the proposed disclosure is intended
to direct investors to a primary source of market
data for TRACE-eligible securities transactions. In
NYSE Rule 409(f), FINRA requires that brokerdealers disclose on confirmations the name of the
securities market on which the confirmed
transaction was made. The New York Stock
Exchange granted temporary relief from this
requirement in conjunction with the
implementation of Regulation NMS. See NYSE
Information Memorandum 07–28 (March 20, 2007).
In Regulatory Notice 07–35 (August 2007) FINRA
extended this relief until January 1, 2008.
19 Proposed NASD Rule 2231(b)(5)(A); cf. MSRB
Rule G–15(a)(i)(C)(2)(e) (must disclose ‘‘the basis on
which interest is paid,’’ if the security pays interest
on other than a semi-annual basis).
20 Proposed NASD Rule 2231(b)(5)(A).
21 Proposed NASD Rule 2231(b)(5)(B); cf. SEC
Rule 10b–10(a)(5) (must disclose yield to maturity);
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next pricing call would be required to
be included and so designated.22 If the
debt security is continuously callable
(i.e., callable on any date after the first
call date) a member would be required
to disclose, ‘‘This security is
continuously callable.’’ 23 If there are
any call features in addition to the next
pricing call, disclosure must be made
that: ‘‘Additional call features exist that
may affect yield; additional information
will be furnished to you upon written
request.’’ 24 For variable rate debt
securities, the member would be
required to inform the customer that the
coupon rate may vary and that the
member will provide additional
information 25 in writing about the
variable debt upon a customer’s written
request.26 Finally, when a member sells
to a customer a debt security that is
callable and, at the time of issuance, is
not structured to include scheduled
interest payments (e.g., ‘‘zero coupon
bonds’’), the member would be required
to provide to the customer the dollar
equivalent of the debt security’s
SEC Rule 10b–10(a)(6) (must disclose yield to
maturity, type of call, call date and call price);
MSRB Rule G–15(a)(i)(C)(2)(a) (must disclose if
securities are callable, if callable through any means
prior to maturity, must disclose date and price of
next pricing call, and must disclose other call
features, or in certain cases, provide notice that
other call features exist and additional information
will be provided upon request).
22 Proposed NASD Rule 2231(b)(5)(B).
23 Id.
24 Id.
25 Proposed NASD Rule 2231(b)(5)(C). The
additional information required to be provided
upon written request would be: (i) The amount of
the next interest payment based on the current
coupon rate, (ii) a statement that this amount will
change if the coupon rate changes, (iii) how often
the coupon rate may be recalculated, (iv) an
explanation of the event(s) that may trigger the
recalculation, and (v) the formula for recalculating
such coupon rate. Id.; cf. MSRB Rule G–
15(a)(i)(D)(2) (for municipal collateralized mortgage
obligations, must include a statement that the actual
yield of such security may vary according to certain
variables and a statement that information
concerning the factors that affect yield will be
furnished upon written request); MSRB Rule G–
15(a)(i)(C)(2)(a) (for callable securities if there are
any call features in addition to the next pricing call,
must provide a statement that ‘‘additional call
features exist that may affect yield; complete
information will be provided upon request’’).
FINRA also notes that in registered offerings much
of this information would be set forth in the
prospectus and the indenture concerning the debt
security, which would be publicly available to
investors.
26 Proposed NASD Rule 2231(b)(5)(C); cf. SEC
Rule 10b–10(a)(4) (for transactions in debt securities
subject to redemption, must provide ‘‘a statement
to the effect that such debt security may be
redeemed in whole or in part before maturity, that
such redemption could affect the yield represented
and the fact that additional information is available
upon request* * *’’); SEC Rule 10b–10(a)(7) (for
transactions in certain asset-backed securities, must
disclose that the actual yield may vary depending
upon certain factors and that additional information
is available upon request).
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imputed interest until the next
occurring call date (assuming that the
price at which the debt security may be
called is paid to the holder).27
Additionally, customers would have the
right to make a written request for
certain additional cash flow information
as well as the disclosure document (see
discussion below of proposed disclosure
document).28 Members would have
three business days to provide a written
response to such requests, unless the
request were made more than six
months after the settlement of a
transaction, in which case a member
would have ten business days to
respond.29
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Proposed Disclosure Document
A member that has provided a
customer disclosure under proposed
NASD Rule 2231 during the period
since it last sent an account statement
to its customer also would be required
to notify that customer of the location
and availability of a FINRA-authored
disclosure document that discusses
investing in bonds, titled ‘‘Important
Information You Need to Know About
Investing in Bonds.’’ 30
27 Proposed NASD Rule 2231(b)(5)(D); cf. SEC
Rule 10b–10(a)(6) (for debt security transactions
effected on the basis of yield, must disclose the
‘‘dollar price calculated from the yield at which the
transaction was affected’’); MSRB Rule G–
15(a)(i)(A)(5)(a)(ii) (‘‘dollar price shall be
computed’’). This disclosure is intended to provide
investors with an easily understood figure reflecting
information similar to that considered by many
institutional investors who consider a security’s
compound accreted value (‘‘CAV’’) when investing
in certain bonds. CAV is, as of a particular date, a
computation of the aggregate of a security’s
principal and interest.
28 See proposed NASD Rule 2231(b)(5)(A)–(C)
and proposed NASD Rule 2340(e)(1).
29 See proposed NASD Rule 2231(b)(5)(A)–(C)
and proposed NASD Rule 2340(e)(3).
30 Proposed NASD Rule 2340(e). The proposed
rule change would redesignate current NASD Rule
2340(e), which governs FINRA’s exemptive
authority with respect to its customer account
statement rule, as NASD Rule 2340(f).The proposed
disclosure document describes various types of
corporate bonds and their common features or
provisions (e.g., coupon rate, face value, and
maturity), as well as risks investors should consider
before investing in debt securities, such as interest
rate risk, call and reinvestment risk, refunding risk
(and sinking fund provisions), and default and
credit risk (including the differences between
subordinated and non-subordinated debt). The
document also addresses other topics, including
bond pricing, the relationship between price and
yield, and the difference between a bond’s yield to
maturity and its yield to call. FINRA believes the
disclosure document should aid investors in
determining whether a bond is an appropriate
investment given the investor’s investment
objectives. Members would be permitted to provide
customers with the FINRA internet web site address
where this disclosure document is located, or the
member’s own internet web site address, provided
that this disclosure document, or an internet
hyperlink directly thereto, is easily accessible from
the internet address that is provided to customers.
Members would be required to provide a paper
VerDate Aug<31>2005
16:46 Oct 18, 2007
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Effective Date
FINRA would announce the effective
date of the proposed rule change in a
Regulatory Notice to be published no
later than 60 days following
Commission approval. As proposed, the
effective date would not be later than
nine months following publication of
the Regulatory Notice announcing
Commission approval.
2. Statutory Basis
FINRA believes that the proposed rule
change is consistent with the provisions
of Section 15A of the Act in general, and
Section 15A(b)(6) of the Act 31 in
particular, which requires, among other
things, that FINRA’s rules must be
designed to prevent fraudulent and
manipulative acts and practices, to
promote just and equitable principles of
trade, to remove impediments to and to
perfect the mechanism of a free and
open market and a national market
system and, in general, to protect
investors and the public interest. FINRA
believes that the proposed rule change
is consistent with these requirements in
that it would provide investors with
information with which they might
better assess the quality of their
executions in debt securities
transactions, the fees charged, and
whether the security purchased fits their
investment goals.
B. Self-Regulatory Organization’s
Statement on Burden on Competition
FINRA does not believe that the
proposed rule change will result in any
burden on competition that is not
necessary or appropriate in furtherance
of the purposes of the Act.
C. Self-Regulatory Organization’s
Statement on Comments on the
Proposed Rule Change Received From
Members, Participants, or Others
FINRA’s statement on comments
received from members, participants, or
others is set forth in Exhibit 1a to
Amendment No. 1 to SR–NASD–2005–
100. At the Commission staff’s request,
FINRA staff has agreed to extend the
comment period for the proposed rule
change from 21 days to 45 days from its
publication in the Federal Register.
III. Date of Effectiveness of the
Proposed Rule Change and Timing for
Commission Action
Within 35 days of the date of
publication of this notice in the Federal
copy of this disclosure document upon request, but
would be permitted to provide this disclosure
document in electronic form (e.g., as an attachment
to an e-mail) if the customer requests that it be
delivered in electronic form.
31 15 U.S.C. 78o–3(b)(6)
PO 00000
Frm 00090
Fmt 4703
Sfmt 4703
Register or within such longer period (i)
as the Commission may designate up to
90 days of such date if it finds such
longer period to be appropriate and
publishes its reasons for so finding or
(ii) as to which the self-regulatory
organization consents, the Commission
will:
(A) By order approve such proposed
rule change, or
(B) Institute proceedings to determine
whether the proposed rule change
should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to
submit written data, views, and
arguments concerning the foregoing,
including whether the proposed rule
change is consistent with the Act.
Comments may be submitted by any of
the following methods:
Electronic Comments
• Use the Commission’s Internet
comment form (https://www.sec.gov/
rules/sro.shtml); or
• Send an e-mail to rulecomments@sec.gov. Please include File
Number SR–NASD–2005–100 on the
subject line.
Paper Comments
• Send paper comments in triplicate
to Nancy M. Morris, Secretary,
Securities and Exchange Commission,
100 F Street, NE., Washington, DC
20549–1090.
All submissions should refer to File
Number SR–NASD–2005–100. This file
number should be included on the
subject line if e-mail is used. To help the
Commission process and review your
comments more efficiently, please use
only one method. The Commission will
post all comments on the Commission’s
Internet Web site (https://www.sec.gov/
rules/sro.shtml). Copies of the
submission, all subsequent
amendments, all written statements
with respect to the proposed rule
change that are filed with the
Commission, and all written
communications relating to the
proposed rule change between the
Commission and any person, other than
those that may be withheld from the
public in accordance with the
provisions of 5 U.S.C. 552, will be
available for inspection and copying in
the Commission’s Public Reference
Room, 100 F Street, NE., Washington,
DC 20549, on official business days
between the hours of 10 a.m. and 3 p.m.
Copies of such filing also will be
available for inspection and copying at
the principal office of FINRA. All
comments received will be posted
without change; the Commission does
E:\FR\FM\19OCN1.SGM
19OCN1
Federal Register / Vol. 72, No. 202 / Friday, October 19, 2007 / Notices
not edit personal identifying
information from submissions. You
should submit only information that
you wish to make available publicly. All
submissions should refer to File
Number SR–NASD–2005–100 and
should be submitted on or before
December 3, 2007.
For the Commission, by the Division of
Market Regulation, pursuant to delegated
authority.32
Nancy M. Morris,
Secretary.
[FR Doc. E7–20601 Filed 10–18–07; 8:45 am]
BILLING CODE 8011–01–P
SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–56656; File No. SR–
NYSEArca–2007–94]
Self-Regulatory Organizations; NYSE
Arca, Inc.; Notice of Filing and
Immediate Effectiveness of Proposed
Rule Change and Amendment No. 1
Thereto To Eliminate Position and
Exercise Limits for Options on the
Russell 2000 Index, and To Specify
That Certain Reduced-Value Options
on Broad-Based Security Indexes Have
No Position and Exercise Limits
October 12, 2007.
pwalker on PROD1PC71 with NOTICES
Pursuant to Section 19(b)(1) of the
Securities Exchange Act of 1934
(‘‘Act’’) 1 and Rule 19b–4 thereunder,2
notice is hereby given that on
September 14, 2007, NYSE Arca, Inc.
(‘‘NYSE Arca’’ or ‘‘Exchange’’) filed
with the Securities and Exchange
Commission (‘‘Commission’’) the
proposed rule change as described in
Items I and II below, which Items have
been substantially prepared by NYSE
Arca. On October 1, 2007, NYSE Arca
submitted Amendment No. 1 to the
proposed rule change. The Exchange
has filed the proposal as a ‘‘noncontroversial’’ rule change pursuant to
Section 19(b)(3)(A) of the Act 3 and Rule
19b–4(f)(6) thereunder,4 which renders
it effective upon filing with the
Commission. The Commission is
publishing this notice to solicit
comments on the proposed rule change,
as amended, from interested persons.
I. Self-Regulatory Organization’s
Statement of the Terms of Substance of
the Proposed Rule Change
NYSE Arca proposes to amend its
rules to eliminate the position and
32 32
17 CFR 200.30–3(a)(12).
U.S.C. 78s(b)(1).
2 17 CFR 240.19b–4.
3 15 U.S.C. 78s(b)(3)(A).
4 17 CFR 240.19b–4(f)(6).
exercise limits for options on the
Russell 2000 Index (‘‘RUT’’), and to
specify that reduced-value options on
broad-based security indexes for which
full-value options have no position and
exercise limits will similarly have no
position and exercise limits. The text of
the proposed rule change is available at
NYSE Arca, the Commission’s Public
Reference Room, and https://
www.nysearca.com.
II. Self-Regulatory Organization’s
Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
Change
In its filing with the Commission,
NYSE Arca included statements
concerning the purpose of and basis for
the proposed rule change and discussed
any comments it received on the
proposed rule change. The text of these
statements may be examined at the
places specified in Item IV below. NYSE
Arca has prepared summaries, set forth
in Sections A, B, and C below, of the
most significant aspects of such
statements.
A. Self-Regulatory Organization’s
Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
Change
1. Purpose
NYSE Arca proposes to amend Rules
5.15(a) and 5.17(a)(13) in order to: (1)
Eliminate position and exercise limits
for options on RUT, a multiply listed
and heavily traded broad-based security
index; and (2) specify that reducedvalue options on broad-based security
indexes for which full-value options
have no position limits will similarly
have no position limits.
Eliminate Position and Exercise
Limits for RUT Options
NYSE Arca presently trades options
on one broad-based index, RUT.
However, the Exchange believes that the
circumstances and considerations that
the Commission relied upon in
approving the elimination of position
and exercise limits for another heavily
traded broad-based index options (e.g.,
NASDAQ–100 Index (‘‘NDX’’), listed on
the Chicago Board Options Exchange
(‘‘CBOE’’)) 5 equally apply to NYSE
Arca’s proposal to eliminate position
and exercise limits for options on RUT.
In addition, the Commission recently
approved similar proposals by CBOE
and the American Stock Exchange LLC
1 15
VerDate Aug<31>2005
16:46 Oct 18, 2007
5 See Securities Exchange Act Release No. 52650
(October 21, 2005), 70 FR 62147 (October 28, 2005)
(SR–CBOE–2005–41) (‘‘NDX Approval Order’’).
Jkt 214001
PO 00000
Frm 00091
Fmt 4703
Sfmt 4703
59329
(‘‘Amex’’) to eliminate position and
exercise limits for RUT options.6
In approving the elimination of
position and exercise limits for NDX
options on CBOE, the Commission
considered the capitalization of this
index and the deep and liquid markets
for the securities underlying the index
that significantly reduced the concerns
of market manipulation or disruption in
the underlying markets.7 The
Commission also noted the active
trading volume for options on the index.
The Exchange believes that RUT shares
these factors in common with NDX. As
of July 31, 2007, the approximate market
capitalization of NDX was $2.28 trillion,
the average daily trading volume
(‘‘ADTV’’) for the component of NDX
was 572 million shares and the ADTV
for options on NDX was approximately
64,000 contracts per day. NYSE Arca
believes that RUT has comparable
characteristics. The market
capitalization for RUT is $1.73 trillion,
the ADTV for the underlying securities
is 535 million shares, and the ADTV for
the option is approximately 79,000
contracts.
In approving the elimination of
position and exercise limits for NDX,
the Commission also noted that
financial requirements imposed by the
options exchanges and the Commission
serve to address concerns that an
exchange member, an Options Trading
Permit (‘‘OTP’’) Holder 8 in the case of
NYSE Arca, or its customer, may try to
maintain an inordinately large
unhedged position in NDX options.
These same financial requirements also
apply to RUT options. Under NYSE
Arca rules, the Exchange also has the
authority to impose additional margin
upon accounts maintaining
underhedged positions, and is further
able to monitor accounts to determine
when such action is warranted. As
noted in the Exchange’s rules, the
clearing firm carrying such an account
would be subject to capital charges
under Rule 15c3–1 under the Act 9 to
the extent of any resulting margin
deficiency.10
In approving the elimination of
position and exercise limits for NDX,
the Commission relied heavily on
6 See Securities Exchange Act Release Nos. 56351
(September 4, 2007), 72 FR 51875 (September 11,
2007) (SR–Amex-2007–81); and 56350 (September
4, 2007), 72 FR 51878 (September 11, 2007) (SR–
CBOE–2007–79) (collectively, ‘‘RUT Approval
Orders’’).
7 See NDX Approval Order, supra note 5.
8 OTP Holder is defined in NYSE Arca Rule
1.1(q). OTP Holders have the status of a ‘‘member’’
of the Exchange as that term is defined in Section
3 of the Act. See 15 U.S.C. 78c.
9 17 CFR 240.15c3–1.
10 See NYSE Arca Rule 5.17(a)(14).
E:\FR\FM\19OCN1.SGM
19OCN1
]]>Agencies
[Federal Register Volume 72, Number 202 (Friday, October 19, 2007)]
[Notices]
[Pages 59321-59329]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: E7-20601]
-----------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-56661; File No. SR-NASD-2005-100]
Self-Regulatory Organizations; National Association of Securities
Dealers, Inc. (n/k/a Financial Industry Regulatory Authority, Inc.);
Notice of Filing of Proposed Rule Change and Amendment Nos. 1, 2, 3,
and 4 Thereto, To Require Members To Provide Customers in TRACE-
Eligible Debt Securities With Additional, Transaction-Specific
Disclosures and To Notify Customers of the Availability of a Disclosure
Document
October 15, 2007.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that
on August 19, 2005, the National Association of Securities Dealers,
Inc. (``NASD''), n/k/a Financial Industry Regulatory Authority, Inc.
(``FINRA''),\3\ filed with the Securities and Exchange Commission
(``SEC'' or ``Commission'') the proposed rule change as described in
Items I, II, and III below, which Items have been prepared by FINRA.\4\
On December 21, 2005, NASD filed Amendment No. 1 to the proposed rule
change. On January 26, 2007, NASD filed Amendment No. 2 to the proposed
rule change. On July 16, 2007, NASD
[[Page 59322]]
filed Amendment No. 3 to the proposed rule change. On August 21, 2007,
FINRA filed Amendment No. 4 to the proposed rule change. The Commission
is publishing this notice to solicit comments on the proposed rule
change, as amended, from interested persons.
---------------------------------------------------------------------------
\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
\3\ On July 26, 2007, the Commission approved a proposed rule
change filed by NASD to amend NASD's Certificate of Incorporation to
reflect its name change to FINRA, in connection with the
consolidation of the member firm regulatory functions of NASD and
NYSE Regulation, Inc. See Securities Exchange Act Release No. 56146
(July 26, 2007), 72 FR 42190 (August 1, 2007).
\4\ Commission staff made certain changes to the description of
the proposed rule change with the consent of FINRA staff to further
clarify the description, to reflect the organization's name change,
and to make other changes incidental to the consolidation during a
telephone conversation between Sharon Zackula, Associate Vice
President and Associate General Counsel, and James Eastman,
Assistant General Counsel, FINRA, and Joshua Kans, Senior Special
Counsel, and Kristina Fausti, Special Counsel, Division of Market
Regulation, Commission, on March 20, 2007; telephone conversations
between Sharon Zackula and James Eastman, and Kristina Fausti, on
August 17, 2007, and August 20, 2007, respectively; and a telephone
conversation between Sharon Zackula, and Josh Kans and Kristina
Fausti, on September 21, 2007.
---------------------------------------------------------------------------
I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
FINRA is proposing to: (1) Adopt NASD Rule 2231, which would
require members, subject to specified exceptions, to provide customers
in transactions in debt securities that are TRACE-eligible securities,
as defined in NASD Rule 6210(a), with additional, transaction-specific
disclosures relating to applicable charges, credit ratings, the
availability of last-sale transaction information, and certain
interest, yield and call provisions; and (2) amend NASD Rule 2340
(customer account statements) to require members to notify certain
customers of the availability of a disclosure document discussing debt
securities authored by FINRA and deliver the document to customers upon
request. The text of the proposed rule change and the associated
disclosure document are set forth below. Proposed new language is in
italics; proposed deletions are in brackets.
2231. Confirmation of Transactions in Debt Securities
(a) Confirmation of Transactions in Debt Securities.
(1) Except as otherwise provided herein, any member that is
required to disclose to a customer information pursuant to Rule 10b-10
under the Act in connection with any transaction in a debt security
also shall, with respect to any TRACE-eligible security, disclose to
the customer, other than an institutional account, the information set
forth in paragraph (b). Except as otherwise provided herein, this
information shall be disclosed in the same manner and at the same time
in which the member discloses to the customer information in connection
with the transaction pursuant to Rule 10b-10 under the Act. A member
need not disclose to customers information required to be disclosed
under this Rule if the member discloses such information pursuant to
Rule 10b-10 under the Act.
(2) For purposes of this Rule:
(A) ``Institutional account'' shall have the same meaning it has in
Rule 3110 and means an account that, within the past twelve months, the
member has determined is an institutional account;
(B) ``Debt security'' shall have the same meaning it has in Rule
10b-10 under the Act, except that any exempted security or asset-backed
security is excluded from this definition;
(C) ``Exempted security'' shall have the same meaning it has in
Section 3(a)(12) of the Act;
(D) ``Asset-backed security'' shall have the same meaning it has in
Rule 10b-10 under the Act;
(E) ``Nationally recognized statistical rating organization''
(``NRSRO'') shall have the same meaning it has in Rule 15c3-1 under the
Act;
(F) ``Clearing member'' shall have the same meaning it has in Rule
3230;
(G) ``Service bureau'' shall have the same meaning it has in IM-
4632-1 under Rule 4632; and
(H) ``TRACE-eligible security'' shall have the same meaning it has
in Rule 6210(a).
(b) Information Required To Be Disclosed
(1) Debt security information. A member must disclose the debt
security's CUSIP number and the TRACE symbol of the debt security if
one has been designated by NASD.
(2) Broker-dealer charges. A member must disclose, if acting as
principal, the following: ``The broker-dealer's remuneration on this
transaction has been added to the price in the case of a purchase or
deducted from the price in the case of a sale.''
(3) Credit rating. A member must disclose the lowest credit
rating(s) it has received at the time the transaction confirmation is
generated, the date of such credit rating(s), and the NRSRO(s)
assigning the credit rating(s) of the debt security the member
purchased for or from or sold to or for a customer, if:
(A) The member has entered into a written agreement with the NRSRO
to receive such credit rating(s);
(B) A service bureau that provides confirmation services to the
member for the transaction has entered into a written agreement with
the NRSRO to receive such credit rating(s) and provides them to the
member as part of the confirmation services at no additional cost; or
(C) A member that acts as a clearing member for, and provides
confirmation services to, the member for the transaction has entered
into a written agreement with the NRSRO to receive such credit
rating(s) and provides them to the member as part of the confirmation
services at no additional cost.
(4) Indicators of marketability and liquidity. A member must
disclose that transaction price information for the securities subject
to this Rule is publicly available on the Internet at https://
www.bondinfo.com for the customer's non-commercial use at no charge, or
at other sources that provide such information.
(5) Cash flow information. For purchases only, a member must
disclose on a per debt security basis the following:
(A) The frequency of interest and/or principal payments as
applicable, if either are paid on a periodic, fixed schedule. If the
debt security does not pay interest or principal on a regular schedule,
a member must disclose the following: ``This security does not pay
interest or principal on a regular schedule. Information regarding the
frequency of interest or principal payments for this security will be
furnished to you upon written request.'' A member shall provide such
additional information in writing within three business days of
receiving a customer's written request, or within ten business days if
such a request is received more than six months after the transaction's
settlement date.
(B) Yield to maturity, and, if the debt security is subject to call
prior to maturity through any means, a notation of ``callable'' shall
be included. The date and price of the next pricing call shall be
included and so designated. If the debt security is continuously
callable (i.e., callable on any date after the first call date), a
member must disclose the following: ``This security is continuously
callable.'' If there are any call features in addition to the next
pricing call, a member must disclose the following: ``Additional call
features exist that may affect yield; additional information will be
furnished to you upon written request.'' A member shall provide such
additional information in writing within three business days of
receiving a customer's written request, or within ten business days if
such a request is received more than six months after the transaction's
settlement date.
(C) For debt securities carrying a variable coupon rate, a member
must disclose the following: ``The coupon rate may vary. Additional
information that describes the way in which the debt security's
interest and principal payments are calculated will be furnished to you
upon written request.'' A member shall provide such additional
information in writing within three business days of receiving a
customer's written request, or within ten business days if such a
request is received more than six months after the transaction's
settlement date. Any such additional information shall contain:
(i) The amount of the next interest payment based on the current
coupon rate,
[[Page 59323]]
(ii) A statement that this amount will change if the coupon rate
changes
(iii) How often the coupon rate may be recalculated,
(iv) An explanation of the event(s) that may trigger the
recalculation, and
(v) The formula for recalculating such coupon rate.
(D) For debt securities that are callable and, at issuance, are not
structured to include scheduled interest payments (e.g., ``zero coupon
bonds''), the dollar equivalent of the debt security's imputed interest
until the next occurring call date (assuming that the price at which
the debt security may be called is paid to the holder).
* * * * *
2340. Customer Account Statements
(a)-(d) No change.
(e) Notice of Availability of NASD Disclosure on Debt Securities
(1) Except as otherwise provided in subparagraph (2) below, a
member that has provided a customer disclosure under Rule 2231 during
the period since the last account statement was sent to the customer
also must disclose the following: ``A disclosure document discussing
your rights as a bondholder and some of the risks related to buying and
holding bonds, titled `Important Information You Need to Know About
Investing in Corporate Bonds,' has been prepared by NASD and is
available online at www.finra.org. A paper version of this document is
available from your broker upon your written request.''
(2) In lieu of disclosing the internet Web site address
``www.finra.org'' in the statement set forth in subparagraph (1), a
member may disclose the member's internet Web site address, provided
that the document, ``Important Information You Need to Know About
Investing in Corporate Bonds,'' or an internet hyperlink directly
thereto, is easily accessible from the internet address that is
disclosed.
(3) A member shall provide the document, ``Important Information
You Need to Know About Investing in Corporate Bonds,'' to any customer
to whom a statement is provided pursuant to subparagraph (1) within
three business days of receiving a customer's written request, or
within ten business days if such a request is received more than six
months after the transaction's settlement date. This document provides
information that an investor should know immediately prior to buying or
selling a bond such as the basics of bond pricing, yield, and the
difference between yield to maturity and yield to call. It also
describes certain risks that bond investors assume in such transactions
(e.g., interest rate risk and liquidity risk). This document also
contains a short description of basic types of bonds (e.g., floating
rate bonds, zero coupon bonds and convertible bonds) as well as debt
structure (e.g., junior or subordinated debt). Finally it informs
investors that even if they are not charged a commission they are
nevertheless paying a fee to their broker-dealer when they buy or sell
bonds. [(e)](f) Exemptions
Pursuant to the Rule 9600 Series, the Association may exempt any
member from the provisions of this Rule for good cause shown.
* * * * *
Important Information You Need to Know About Investing in Corporate
Bonds
This document is intended to provide you with some basic facts
about the most common features of corporate bonds, and to alert you to
some of the risks associated with buying, selling, and holding
corporate bonds.
As with any investment, before buying a corporate bond, you should
analyze the bond on its own merits, weighing its risks, costs, and
rewards. Consult with your firm about any questions you may have about
investing in a particular bond.
Corporate Bond Basics
What Is a Corporate Bond?
Corporate bonds are, at their simplest, loans that investors make
to public and private corporations. Consequently, bonds are referred to
as debt securities. Corporations generally issue corporate bonds to
raise money for capital expenditures, operations, and acquisitions.
Typically, bondholders receive interest payments during the term of
a bond (or, for as long as a bondholder owns a bond), at the stated
interest rate--also called the coupon rate. In addition, if bondholders
hold bonds until maturity, they also are repaid the principal amount,
called par value or face amount.
Bond Price and Yield
Price
If you sell a bond before it matures, you may not receive the full
principal amount of the bond. This is because a bond's price is not
based on the par value of the bond. Rather, it is set in the secondary
market and is established by the current market values of such bonds,
which may be more or less than the amount of principal the issuer would
be required to pay the bondholder at maturity. Therefore, it is
impossible to predict in advance the price that a bondholder will
receive if the bondholder purchases a bond and later sells the bond
before maturity.
The price of a bond is often above or below its par value because
the price is adjusted according to current interest rates in the whole
market for the same debt security and comparable debt securities. For
example, if the bond you desire to purchase has a coupon rate of 8
percent, and similar quality new bonds available for sale have a coupon
rate of 5 percent, you will have to pay more than the par amount of the
bond that you intend to purchase, because you will receive more
interest income than the current coupon rate (5 percent) being attached
to similar bonds. (A bond's coupon rate is the rate of interest paid
periodically on the face amount of the obligation.)
Yield
Yield is the overall return on the capital you invest in the bond.
Yield is similar to, but different from, a bond's coupon rate. This
distinction is important, because as is explained above, while a bond's
face amount or par value is fixed, its market value almost always
changes over time. Because bond prices fluctuate continually in the
market, the yield your bond investment will provide if it is sold prior
to maturity also changes constantly. A bond's price is inversely
related to its yield. As a bond's price increases, its associated yield
decreases; as the price of a bond decreases, the associated yield
increases.
For example, a bond that sells today for $1,000 and has a coupon
rate of 8 percent has a current yield of 8 percent. Because the
``price'' equals the face amount of the bond, the current yield of 8
percent equals the 8 percent coupon rate. However, usually after the
first sale of a bond, the price of a bond differs from the face amount.
For example, if the same bond sells tomorrow for $990, the current
yield would be slightly higher than 8 percent.
Yield to Maturity and Yield to Call: What's the Difference?
Yield to maturity is calculated by taking into account the total
amount of interest you will receive over time, your purchase price (the
amount of capital you invested), the face amount (or other amount you
will be paid when the issuer ``redeems'' the bond), the time between
interest payments, and the time remaining until the bond matures.
If you hold a callable bond, another type of yield calculation,
yield to call, also is important for you to understand. This
calculation takes into account the
[[Page 59324]]
impact on a bond's yield if it is called prior to maturity and is often
done using the first date on which the issuer could call the bond.
(Other call dates may be used in specified circumstances.) A bond's
yield to call may be lower than its yield to maturity.
To get a more accurate picture of what a bond will cost you or what
you received for it, you should also ask your broker to calculate the
yield adjusting the purchase price up (when you purchase) or down (when
you sell) by the amount of the mark-up or commission (when you
purchase) or mark-down or commission (when you sell) and other fees or
charges that you are charged by your broker for its services. This is
called yield reflecting broker compensation.
Corporate Bond Risks
Like virtually all investments, corporate bonds carry risk. It is
important that you fully understand the risks of investing in corporate
bonds. These risks include:
Interest Rate Risk
When interest rates rise, bond prices fall, and when interest rates
fall, bond prices rise. Interest rate risk is the risk that changes in
interest rates generally in the U.S. or the world economy may reduce
(or increase) the market value of a bond you hold. Interest rate risk
increases the longer that you hold a bond. For example, if interest
rates rise throughout the economy, bond issuers, along with other
borrowers, will need to offer potential bondholders higher rates to
compete with the higher interest rates available elsewhere.
Any bonds issued in a period of rising interest rates generally
will carry higher coupon rates, which will be more attractive to
potential bondholders than the coupon rate paid by bonds issued before
the rise in interest rates. This decreased appetite for older bonds
that pay lower interest depresses their price in the secondary market,
which would translate into your receiving a lower price for your bonds
if you chose to resell them in a period of rising interest rates. The
opposite holds true as well, and the market value of older bonds that
pay higher than current interest rates tends to rise in periods where
interest rates are generally declining.
Call and Reinvestment Risk
Bonds with a call provision can be redeemed or ``called'' by the
bond issuers, requiring bondholders to redeem their bonds at the call
price well before their maturity dates. Bonds often are called when
market interest rates are falling, because bond issuers want to
refinance their debt at lower interest rates (similar to when a home
owner seeks to refinance a mortgage at a lower rate when mortgage
interest rates decrease). This is known as call risk.
With a callable bond, a bondholder might not receive the bond's
coupon rate for the entire term of the bond, and it might be difficult
or impossible to find an equivalent investment paying rates as high as
the called bond. This is known as reinvestment risk. Additionally, at
any given point in time, the period that a callable bond will generate
cash flow is uncertain. This risk will be reflected in a lower market
value for the bond because any appreciation in the value of the bond's
periodic interest payments may not be fully realized if it is ``called
away'' by its issuer.
Refunding Risk and Sinking Funds Provisions
A sinking fund provision, which often is a term included in bonds
issued by industrial and utility companies, requires a bond's issuer to
retire a certain number of bonds periodically. This can be accomplished
in a variety of ways, including through purchases in the secondary
market or forced purchases directly from bondholders at a pre-
determined price.
Holders of bonds subject to sinking fund redemptions should
understand that they risk having their bonds called (or redeemed) prior
to maturity. Unlike other bonds subject to call, depending on the
sinking fund provision, there may be a relatively high likelihood that
the issuer will redeem some or many of the bonds prior to maturity,
even if market-wide interest rates do not change.
It is important to understand that there is no guarantee that an
issuer of these bonds will be able to comply strictly with any
redemption requirements. In certain cases, an issuer may need to borrow
funds or issue additional debt to refinance an outstanding bond issue
subject to a sinking fund provision when it matures. If the issuer is
unable to raise adequate funds to refinance the outstanding issue, the
issuer could default and the bondholder could lose all or most of his/
her investment.
Default and Credit Risk
If you ever loaned money to someone, chances are you gave some
thought to the likelihood of being repaid. Some loans are riskier than
others. The same is true when you invest in bonds. You are taking a
risk that the issuer's promise to repay both principal and interest
will not be upheld. In the case of Treasuries and other government-
issued bonds backed by the ``full faith and credit of the U.S.
government,'' that risk is almost zero. However, there is some risk of
default with corporate bonds. This means the corporations issuing them
may either be late paying bondholders or--in worst-case scenarios--be
unable to pay at all.
Bond ratings are a way of measuring default and credit risk. Bond
ratings are issued by private companies called credit rating agencies.
In issuing a credit rating, a credit rating agency reviews relevant
information supplied to it by the issuer or its agents, and from
sources the credit rating agency considers reliable, including
financial information such as the issuer's financial statements, and
assigns a rating (for example, AAA (or Aaa) to D).
Generally, bonds are categorized in two broad categories--
investment grade and non-investment grade. Bonds that are rated BBB (or
Baa) or higher are considered investment grade. Bonds that are rated BB
(or Ba) or lower are non-investment grade. Non-investment grade bonds
are also referred to as high-yield or junk bonds, and in some cases,
distressed bonds. These bonds are considered riskier investments
because the issuer's general financial condition is less sound, and the
issuer may default--(may not be able to pay the interest and principal
to bondholders when they are due).
Many bondholders heavily weigh the rating of a particular corporate
bond in determining if the corporate bond is an appropriate and
suitable investment for them. Although credit ratings are an important
indicator of creditworthiness, you should also consider that the value
of the bond might change depending on changes in the company's business
and profitability. The credit rating could be revised downward. In the
worst scenario, if you own a bond and the company that issues it
defaults you could lose all of your investment. Finally, some bonds are
not rated. In such cases, an individual bondholder may find it
difficult to assess the overall creditworthiness of the issuer of the
bond.
Liquidity Risk
You should determine whether the bond in which you are interested
has traded frequently, infrequently, or not at all in recent months,
and if your broker regularly buys and sells the bond. While certain
bonds are very actively traded and are relatively ``liquid,'' other
bonds, including many high-yield bonds, are traded much less frequently
or not at all and may not be easy to sell. If you think you might need
to sell the bonds you are purchasing prior to their maturity, you
[[Page 59325]]
should carefully consider the likelihood of your being able to do so,
and whether your broker will be able and willing to assist you in
liquidating your investment at a fair price reasonably related to then
current market prices. It is possible that you may be able to re-sell a
bond only at a heavy discount to the price you paid (loss of some
principal) or not at all. Additionally, bonds that are less frequently
traded may be subject to wider ``spreads'' in the secondary market,
which means that you would receive less for your bond if selling, or
pay more if buying, than otherwise would be the case.
Corporate Bonds with Special Features
It also is important to understand any special features a bond may
have before you buy, since these features may affect risk.
Floating Rate Bonds
Floating-rate bonds have a floating or variable interest rate that
is adjusted periodically, or floats, using an external value or measure
(for example, the prime rate or a stock index). Such bonds offer
protection against interest rate risk, but their coupon rate is usually
lower than those of fixed-rate bonds.
Zero-Coupon Bonds
Zero-coupon bonds, unlike other bonds, don't make regular interest
payments. Instead, the bondholder buys the bond at a discount from the
face value of the bond, and, when the bond matures, the issuer repays
the bondholder the face amount. The difference between the discounted
amount the bondholder pays upon purchase and the face amount later
received is the imputed interest. Because zero-coupon bonds don't pay
any interest until maturity, their prices may be more volatile than
other bonds with similar maturities that pay interest periodically.
Secured Bonds
Secured bonds are backed by collateral that the bond's issuer has
agreed to sell if it otherwise is unable to meet its obligation when
the bond matures. For example, a bond might be backed by a specific
factory or industrial equipment. However, any such backing is only as
good as the value of the asset being used as collateral, the value of
which can decrease during the term of the bond.
Bonds that are not backed by any collateral are unsecured and are
sometimes called debentures. Debentures are backed solely by an
issuer's promise to repay you. Most corporate bonds are debentures.
Guaranteed and Insured Bonds
Certain bonds may be referred to as guaranteed or insured. This
means that a third party has agreed to make the bond's interest and
principal payments if the issuer is unable to make these payments. You
should keep in mind that such guarantees only are as valuable as the
creditworthiness of the third party making the guarantee or providing
the insurance.
Convertible Bonds
Convertible bonds may be converted into the stock of the bond's
issuer. A bondholder should be careful to understand the conditions
under which the bonds may be converted, as this right often is
contingent upon the issuer's stock reaching a certain price level,
among other things. Bond investors also should ask their broker or
financial adviser whether there is any charge or fee associated with
making a conversion.
Junior or Subordinated Bonds
The more junior bonds issued by a company typically are referred to
as subordinated debt, because a junior bondholder's claim for repayment
of the principal of such bonds has a lower priority than the claims of
a bondholder holding an issuer's more senior debt. Therefore, in the
event of a bankruptcy, junior bondholders receive payment only after
senior debt claims are paid in full. Additionally, other types of
claims also may have priority on the issuer's remaining assets over the
claims of all bondholders (e.g., certain supplier or customer claims).
Therefore, although bondholders generally are paid prior to
stockholders in a bankruptcy proceeding, this doesn't mean the
bondholder will get any money back because the issuer's assets could be
reduced to zero by other creditors that have the right to be paid
before bondholders.
Broker Compensation for Selling Bonds
No Commission does not Mean No Charge.
You should understand that your broker is being compensated for
performing services for you, even if you are not charged a commission
when you buy or sell a bond. In most bond transactions, brokers are
compensated, even though a commission charge is not disclosed, because
the transaction is structured as a principal transaction (i.e., your
broker sells you a bond it already owns). This is because when a dealer
sells you a bond in a principal capacity, the dealer increases or marks
up the price you pay over the price the dealer paid to acquire the
bond. The mark-up is the dealer's compensation and is similar to a
commission. Similarly, if you sell a bond, a dealer will offer you a
price that includes a mark-down from the price that the dealer believes
he can sell the bond to another dealer or another buyer. You should
understand that the firm has charged you a fee for its services.
Would a Similar Bond Cost Less?
Finally, it is important to consider the potential conflicts that
your broker might have when it sells you a bond. Bonds issued by
different issuers often have very similar risk profiles and carry
similar coupon rates. Before you buy a bond, you should shop around and
consider if there are other bonds that you could buy at a cheaper price
than the one recommended by your broker. You should consider whether
there are other bonds available with similar risk/return profiles that
might be available at lower cost. You also should try and understand
how your broker is being compensated for any bond transaction,
particularly those that are recommended to you where similar bonds may
be available.
* * * * *
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, FINRA included statements
concerning the purpose of and basis for the proposed rule change and
discussed any comments it received on the proposed rule change. The
text of these statements may be examined at the places specified in
Item IV below. FINRA has prepared summaries, set forth in sections A,
B, and C below, of the most significant aspects of such statements.
A. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
1. Purpose
Background
With the implementation of FINRA's Trade Reporting and Compliance
Engine (``TRACE'') in 2002 and the subsequent availability of a
consolidated view of transaction information in the U.S. corporate bond
market, a number of trends have emerged that have implications for the
regulatory framework of the corporate debt market. For example,
approximately 65% of TRACE transactions are for amounts of less than
$100,000, indicating significant individual investor participation in
the corporate bond
[[Page 59326]]
market.\5\ FINRA believes that helping investors to understand some of
the key characteristics of particular bonds that they are buying or
selling as well as the key risks associated with bond investing is an
important element of its efforts to enhance transparency in the
corporate debt market. FINRA also believes that the proposed rule
change will further efficiency, competition, and capital formation in
the market for corporate debt securities. In particular, FINRA
anticipates that the proposed rule change, by providing greater
transparency to debt securities transactions, will result in greater
efficiency in pricing and further competition in the market for
corporate debt securities. FINRA believes the proposed rule change also
will enhance capital formation to the extent that investors are better
able to assess the risks and benefits related to investing in corporate
debt securities.\6\
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\5\ See NASD Notice to Members 05-21 (April 2005); see also
Report of the Corporate Debt Market Panel, September 2004, https://
www.finra.org/web/groups/reg_systems/documents/regulatory_systems/
p011445.pdf (``Panel Report''). The Corporate Debt Market Panel
(``Panel'') was a group of twelve experts in the fixed income area
appointed by the NASD Board of Governors to make recommendations to
NASD regarding how best to ensure market integrity and investor
protection in the corporate bond market. The Panel reviewed
information showing significant levels of participation by
individual investors in the corporate bond market. For example, the
Panel Report notes that information obtained from TRACE shows that
approximately ``two thirds of corporate bond transactions reported
to TRACE are in quantities of $100,000 or less in value, a size
widely viewed as representative of individual investor activity.''
Panel Report at 4. The Panel also reviewed NASD surveys showing that
individual investors often do not understand certain key structural
aspects of specific bonds or the market in which bonds are traded.
For example, 34% of individuals surveyed did not believe that they
were paying a fee for buying or selling a bond and approximately 60%
of investors surveyed did not understand that bond prices generally
fall as interest rates rise. Panel Report at 4. The Panel concluded
that individual investors would benefit from additional guidance and
information disclosure, and recommended, among other things, that
investors obtain improved access to information on bonds and receive
increased disclosures regarding their bond transactions. The
proposed rule change is based on the Panel's recommendations and
also reflects significant input from other NASD advisory committees,
such as NASD's Fixed Income Committee.
\6\ See generally Panel Report.
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Proposed Disclosures
Proposed NASD Rule 2231 would require members, subject to certain
exceptions,\7\ to provide customers in TRACE-eligible securities
transactions,\8\ with additional transaction-specific disclosures
relating to applicable charges, credit ratings, the availability of
last-sale transaction information, and certain interest, yield and call
provisions.\9\ These disclosures would have to be provided in the same
manner and at the same time in which a broker-dealer discloses
information under Rule 10b-10.\10\
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\7\ Proposed NASD Rule 2231's disclosures would not be required
to be provided to institutional accounts, and proposed NASD Rule
2231 would not apply to transactions in asset-backed or exempted
securities. ``Institutional account'' would have the same meaning it
has in NASD Rule 3110(c)(4). ``Asset-backed security'' would have
the same meaning it has in Rule 10b-10(d)(10) under the Act. See 17
CFR 240.10b-10. ``Exempted security'' would have the same meaning it
has in Section 3(a)(12) of the Act (15 U.S.C. 78c(a)(12)). See
paragraphs (a)(2)(A), (a)(2)(D) and (a)(2)(C) of proposed NASD Rule
2231, respectively.
\8\ Proposed NASD Rule 2231 only would apply to a transaction in
a ``debt security'' that also is a ``TRACE-eligible security,''
which would have the same meaning it has in NASD Rule 6210(a). See
proposed NASD Rule 2231(a)(2)(H). Debt security would have the same
meaning it has under Rule 10b-10 under the Act except that it would
not include any asset-backed security or exempted security. See
Proposed NASD Rule 2231(a)(2)(B).
\9\ Under proposed NASD Rule 2231(a) members would not be
required to make any of the disclosures, which are specified in
proposed paragraph (b), that are duplicative of disclosures already
required under SEC Rule 10b-10 for that transaction. Proposed NASD
Rule 2231(a)(1). Also, under proposed NASD Rule 2231(a), unless
otherwise provided, the information would be required to be
disclosed in the same manner (e.g., frequency) and at the same time
in which the member discloses information to the customer about the
specific debt transaction pursuant to SEC Rule 10b-10. Id. For
example, the Commission has provided exemptive relief to broker-
dealer sponsors of ``wrap fee programs'' to permit those broker-
dealers to confirm transactions in their wrap fee programs through
periodic statements, not less often than quarterly (subject to
several conditions), in lieu of immediate trade confirmations that
otherwise would be required under SEC Rule 10b-10. Money Management
Institute, Securities Industry Association, SEC No-Action Letter,
1999 SEC No-Act Lexis 934 (August 23, 1999). FINRA would defer to
SEC and SEC staff interpretations of SEC Rule 10b-10 when
interpreting proposed NASD Rule 2231's delivery requirements, and
members properly relying upon such interpretations for purposes of
satisfying SEC Rule 10b-10's delivery requirements also would be
deemed to satisfy proposed NASD Rule 2231's delivery requirements.
If the SEC approves the proposed Rule, FINRA would provide guidance
in this area only in instances where the SEC or its staff has not
already addressed a particular issue.
\10\ Proposed NASD Rule 2231(a)(1). However, FINRA would not
interpret proposed NASD Rule 2231 as requiring members to provide
the required supplemental disclosures on the same piece of paper or
in the same electronic document (if the confirmation is provided
electronically) as that containing the SEC Rule 10b-10 confirmation,
because FINRA believes such requirements could be unwieldy without
materially enhancing investor protection. Nevertheless, FINRA
anticipates that the supplemental disclosures of proposed NASD Rule
2231 and the confirmation disclosures required by SEC Rule 10b-10
would be delivered simultaneously.
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FINRA believes that the information in the proposed disclosures
generally is of the type that currently is included in confirmations of
transactions in various types of securities (e.g., municipal
securities). While the disclosures proposed by FINRA are narrowly
tailored to the specific concerns that have been raised regarding
confirmation disclosure in TRACE-eligible securities transactions,
FINRA has identified where analogous disclosures are today required.
The specific additional disclosures would include the security's CUSIP
\11\ number and its TRACE symbol \12\ to assure that the transaction is
identified as clearly as possible. A member acting as principal would
be required to disclose, if applicable, a statement relating to
transaction charges.\13\ This standard disclosure is intended to
clarify for investors who are dealing with a member acting as a
principal, in the capacity of either a dealer or market maker, whether
the member has obtained any remuneration in connection with the
customer's debt securities transaction. FINRA is not proposing to
require that the amount of the member's mark-up or mark-down be
[[Page 59327]]
disclosed because, under SEC Rule 10b-10, in debt securities
transactions, an agency commission is required to be disclosed, but a
principal's mark-up or mark-down is not. Under certain circumstances a
member would be required to disclose the credit rating of the security
and the Nationally Recognized Statistical Rating Organization
(``NRSRO'') assigning it the rating.\14\ A member that subscribes to
more than one NRSRO (or otherwise is provided credit ratings as
described previously) and has more than one credit rating for a
security, would be required to provide the lowest of such credit
ratings to the customer.\15\ A member would be required to disclose the
credit rating if it, or the clearing firm or service bureau providing
confirmation services to the member on the transaction, has entered
into a written agreement with a rating agency to receive such credit
ratings, and, in the case of a clearing firm or service bureau, those
ratings are made available to the member for inclusion on the
transaction confirmation at no additional cost.\16\ A member would be
required to disclose the credit rating it has received at the time the
transaction confirmation is generated \17\ as well as the date
applicable to the credit rating. A member also would be required to
disclose that transaction price information is publicly available for
the security, and that a customer may obtain such information at the
FINRA internet web site https://www.bondinfo.com for the customer's non-
commercial use at no charge, or at other sources that provide such
information, such as the Web site, investinginbonds.com.\18\
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\11\ Proposed NASD Rule 2231(b)(1). ``CUSIP'' stands for
Committee on Uniform Securities Identification Procedures. According
to FINRA, CUSIP numbers belong to Standard and Poor's, a division of
the McGraw-Hill Companies, Inc. (``S&P''). S&P licenses to FINRA the
use of the terms ``Committee on Uniform Securities Identification
Procedures'' and ``CUSIP.'' See Municipal Securities Rulemaking
Board (``MSRB'') Rule G-15(a)(i)(B)(2) (requires disclosure of a
security's CUSIP number); cf. SEC Rule 10b-10(a)(1) (requires
disclosure of a security's ``identity'').
\12\ Proposed NASD Rule 2231(b)(1). The TRACE symbol allows
retail investors tomore easily identify the TRACE-eligible security
as to the issuer. See SEC Rule 10b-10(a)(1) (requires disclosure of
a security's ``identity''); cf. MSRB Rule G-15(a)(i)(B)(1)(a) (for
stripped coupon securities, requires confirmation disclosure of a
security's ``trade name and series designation''); MSRB Rule G-
15(a)(i)(B)(1)(b) (for municipal fund securities, requires
confirmation disclosure of ``the name used by the issuer to identify
such securities and, to the extent necessary to differentiate the
securities from other municipal fund securities of the issuer, any
separate program series, portfolio or fund designation for such
securities must be shown.'').
\13\ Proposed NASD Rule 2231(b)(2). The required disclosure for
principal transactions, if applicable, would be ``the broker-
dealer's remuneration on this transaction has been added to the
price in the case of a purchase or deducted from the price in the
case of a sale.'' Id.; cf. SEC Rule 10b-10(e)(1)(ii) (a broker or
dealer that effects ``any transaction'' for a customer in security
futures products in a futures account must disclose ``the source and
amount of any remuneration received or to be received * * *
including, but not limited to, markups, commissions, costs, fees,
and other charges incurred in connection with a transaction* * *
.''); SEC Rule 10b-10(a)(2)(ii) (in certain circumstances a non-
market maker acting as principal for its own account is required to
disclose the ``difference between the price to the customer and the
dealer's contemporaneous purchase (for customer purchases) or sale
price (for customer sales)''); SEC Rule 10b-10(a)(2)(i) (must
disclose capacity, and, when acting as agent for the customer, some
other person, or for both the customer and some other person, the
``amount of any remuneration received or to be received* * * .''
under SEC Rule 10b-10(a)(2)(i)(B)); MSRB Rule G-15(a)(i)(A)(1)(e)
(requires, in certain cases, certain disclosures regarding the
broker-dealer's remuneration in the transaction).
\14\ Proposed NASD Rule 2231(b)(3); cf. SEC Rule 10b-10(a)(8)
(requires disclosure that a debt security is unrated by an NRSRO, if
applicable); MSRB Rule G-15(a)(i)(C)(3)(f) (requires disclosure that
a debt security is unrated by an NRSRO, if applicable). Pursuant to
the Credit Rating Agency Reform Act of 2006 and Commission rules
thereunder, on June 28, 2007, the Commission announced that seven
credit rating agencies applied to be registered with the Commission
as NRSROs and could continue to represent themselves or act as
NRSROs during Commission consideration of their applications. See
SEC Press Release 2007-124 (June 28, 2007). The seven credit
agencies are: A.M. Best Company, Inc., Dominion Bond Rating Service
Limited, Fitch, Inc., Japan Credit Rating Agency, Ltd., Moody's
Investors Service, Rating and Investment Information, Inc., and
Standard and Poor's Rating Services. In issuing a credit rating,
these organizations review relevant information supplied to them by
the issuer or its agents, and from sources they consider reliable,
including financial information such as the issuer's financial
statements, and assign a rating, for example AAA (Aaa) to D.
\15\ Proposed NASD Rule 2231(b)(3).
\16\ It is FINRA's understanding that certain large clearing
firms offer to disclose on a correspondent firm's transaction
confirmation a ``menu'' of items for a fixed fee and that credit
rating information typically is included as one of these menu items.
FINRA noted in NASD Notice to Members 05-21 that, if the current
proposal were adopted, FINRA would monitor the percentage of firms
that subscribe to and disclose NRSRO ratings and would consider the
advisability of mandating at least one subscription to an NRSRO if a
uniform practice of disclosing NRSRO ratings did not arise. For
example, FINRA might consider such an approach if the proposed Rule
were adopted and FINRA became aware that member firms were seeking
to avoid disclosing NRSRO ratings by paying their clearing firms or
service bureaus a separate, nominal charge to receive such ratings
to circumvent the requirement in proposed NASD Rule 2231(b)(3)(B)
and (C) that requires a member to make such disclosures only if the
member receives NRSRO ratings from its clearing firm ``at no
additional cost.'' Finally, a member that receives credit rating
information and whose clearing firm also receives credit rating
information would be permitted to choose which credit ratings to
disclose so long as the credit rating was the lowest of the ratings
it receives.
\17\ Proposed NASD Rule 2231(b)(3). This provision has been
revised in response to SEC staff comments and industry feedback and
is intended to minimize the costs and operational burdens faced by
members complying with this requirement. Members now would be
permitted to use the lowest credit rating they have received or may
receive as part of the confirmation preparation process. Members
would not be required to disclose the credit rating available at the
time a transaction is executed, which was initially proposed by
FINRA in SR-NASD-2005-100.
\18\ Proposed NASD Rule 2231(b)(4). Most transactions in TRACE-
eligible securities, as well as other debt securities, are executed
in the over-the-counter market; the proposed disclosure is intended
to direct investors to a primary source of market data for TRACE-
eligible securities transactions. In NYSE Rule 409(f), FINRA
requires that broker-dealers disclose on confirmations the name of
the securities market on which the confirmed transaction was made.
The New York Stock Exchange granted temporary relief from this
requirement in conjunction with the implementation of Regulation
NMS. See NYSE Information Memorandum 07-28 (March 20, 2007). In
Regulatory Notice 07-35 (August 2007) FINRA extended this relief
until January 1, 2008.
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For customer purchases only, members would be required to provide
the frequency of interest and/or principal payments as applicable, if
either are paid on a periodic, fixed schedule.\19\ If the debt security
does not pay interest or principal on a regular schedule, the member
must disclose the following: ``This security does not pay interest or
principal on a regular schedule. Information regarding the frequency of
interest or principal payments for this security will be furnished to
you upon written request.'' \20\ Yield to maturity would be required to
be disclosed and, if the debt security is subject to call prior to
maturity through any means, a notation of ``callable'' also would be
required to be included.\21\ The date and price of the next pricing
call would be required to be included and so designated.\22\ If the
debt security is continuously callable (i.e., callable on any date
after the first call date) a member would be required to disclose,
``This security is continuously callable.'' \23\ If there are any call
features in addition to the next pricing call, disclosure must be made
that: ``Additional call features exist that may affect yield;
additional information will be furnished to you upon written request.''
\24\ For variable rate debt securities, the member would be required to
inform the customer that the coupon rate may vary and that the member
will provide additional information \25\ in writing about the variable
debt upon a customer's written request.\26\ Finally, when a member
sells to a customer a debt security that is callable and, at the time
of issuance, is not structured to include scheduled interest payments
(e.g., ``zero coupon bonds''), the member would be required to provide
to the customer the dollar equivalent of the debt security's
[[Page 59328]]
imputed interest until the next occurring call date (assuming that the
price at which the debt security may be called is paid to the
holder).\27\ Additionally, customers would have the right to make a
written request for certain additional cash flow information as well as
the disclosure document (see discussion below of proposed disclosure
document).\28\ Members would have three business days to provide a
written response to such requests, unless the request were made more
than six months after the settlement of a transaction, in which case a
member would have ten business days to respond.\29\
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\19\ Proposed NASD Rule 2231(b)(5)(A); cf. MSRB Rule G-
15(a)(i)(C)(2)(e) (must disclose ``the basis on which interest is
paid,'' if the security pays interest on other than a semi-annual
basis).
\20\ Proposed NASD Rule 2231(b)(5)(A).
\21\ Proposed NASD Rule 2231(b)(5)(B); cf. SEC Rule 10b-10(a)(5)
(must disclose yield to maturity); SEC Rule 10b-10(a)(6) (must
disclose yield to maturity, type of call, call date and call price);
MSRB Rule G-15(a)(i)(C)(2)(a) (must disclose if securities are
callable, if callable through any means prior to maturity, must
disclose date and price of next pricing call, and must disclose
other call features, or in certain cases, provide notice that other
call features exist and additional information will be provided upon
request).
\22\ Proposed NASD Rule 2231(b)(5)(B).
\23\ Id.
\24\ Id.
\25\ Proposed NASD Rule 2231(b)(5)(C). The additional
information required to be provided upon written request would be:
(i) The amount of the next interest payment based on the current
coupon rate, (ii) a statement that this amount will change if the
coupon rate changes, (iii) how often the coupon rate may be
recalculated, (iv) an explanation of the event(s) that may trigger
the recalculation, and (v) the formula for recalculating such coupon
rate. Id.; cf. MSRB Rule G-15(a)(i)(D)(2) (for municipal
collateralized mortgage obligations, must include a statement that
the actual yield of such security may vary according to certain
variables and a statement that information concerning the factors
that affect yield will be furnished upon written request); MSRB Rule
G-15(a)(i)(C)(2)(a) (for callable securities if there are any call
features in addition to the next pricing call, must provide a
statement that ``additional call features exist that may affect
yield; complete information will be provided upon request''). FINRA
also notes that in registered offerings much of this information
would be set forth in the prospectus and the indenture concerning
the debt security, which would be publicly available to investors.
\26\ Proposed NASD Rule 2231(b)(5)(C); cf. SEC Rule 10b-10(a)(4)
(for transactions in debt securities subject to redemption, must
provide ``a statement to the effect that such debt security may be
redeemed in whole or in part before maturity, that such redemption
could affect the yield represented and the fact that additional
information is available upon request* * *''); SEC Rule 10b-10(a)(7)
(for transactions in certain asset-backed securities, must disclose
that the actual yield may vary depending upon certain factors and
that additional information is available upon request).
\27\ Proposed NASD Rule 2231(b)(5)(D); cf. SEC Rule 10b-10(a)(6)
(for debt security transactions effected on the basis of yield, must
disclose the ``dollar price calculated from the yield at which the
transaction was affected''); MSRB Rule G-15(a)(i)(A)(5)(a)(ii)
(``dollar price shall be computed''). This disclosure is intended to
provide investors with an easily understood figure reflecting
information similar to that considered by many institutional
investors who consider a security's compound accreted value
(``CAV'') when investing in certain bonds. CAV is, as of a
particular date, a computation of the aggregate of a security's
principal and interest.
\28\ See proposed NASD Rule 2231(b)(5)(A)-(C) and proposed NASD
Rule 2340(e)(1).
\29\ See proposed NASD Rule 2231(b)(5)(A)-(C) and proposed NASD
Rule 2340(e)(3).
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Proposed Disclosure Document
A member that has provided a customer disclosure under proposed
NASD Rule 2231 during the period since it last sent an account
statement to its customer also would be required to notify that
customer of the location and availability of a FINRA-authored
disclosure document that discusses investing in bonds, titled
``Important Information You Need to Know About Investing in Bonds.''
\30\
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\30\ Proposed NASD Rule 2340(e). The proposed rule change would
redesignate current NASD Rule 2340(e), which governs FINRA's
exemptive authority with respect to its customer account statement
rule, as NASD Rule 2340(f).The proposed disclosure document
describes various types of corporate bonds and their common features
or provisions (e.g., coupon rate, face value, and maturity), as well
as risks investors should consider before investing in debt
securities, such as interest rate risk, call and reinvestment risk,
refunding risk (and sinking fund provisions), and default and credit
risk (including the differences between subordinated and non-
subordinated debt). The document also addresses other topics,
including bond pricing, the relationship between price and yield,
and the difference between a bond's yield to maturity and its yield
to call. FINRA believes the disclosure document should aid investors
in determining whether a bond is an appropriate investment given the
investor's investment objectives. Members would be permitted to
provide customers with the FINRA internet web site address where
this disclosure document is located, or the member's own internet
web site address, provided that this disclosure document, or an
internet hyperlink directly thereto, is easily accessible from the
internet address that is provided to customers. Members would be
required to provide a paper copy of this disclosure document upon
request, but would be permitted to provide this disclosure document
in electronic form (e.g., as an attachment to an e-mail) if the
customer requests that it be delivered in electronic form.
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Effective Date
FINRA would announce the effective date of the proposed rule change
in a Regulatory Notice to be published no later than 60 days following
Commission approval. As proposed, the effective date would not be later
than nine months following publication of the Regulatory Notice
announcing Commission approval.
2. Statutory Basis
FINRA believes that the proposed rule change is consistent with the
provisions of Section 15A of the Act in general, and Section 15A(b)(6)
of the Act \31\ in particular, which requires, among other things, that
FINRA's rules must be designed to prevent fraudulent and manipulative
acts and practices, to promote just and equitable principles of trade,
to remove impediments to and to perfect the mechanism of a free and
open market and a national market system and, in general, to protect
investors and the public interest. FINRA believes that the proposed
rule change is consistent with these requirements in that it would
provide investors with information with which they might better assess
the quality of their executions in debt securities transactions, the
fees charged, and whether the security purchased fits their investment
goals.
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\31\ 15 U.S.C. 78o-3(b)(6)
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B. Self-Regulatory Organization's Statement on Burden on Competition
FINRA does not believe that the proposed rule change will result in
any burden on competition that is not necessary or appropriate in
furtherance of the purposes of the Act.
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others
FINRA's statement on comments received from members, participants,
or others is set forth in Exhibit 1a to Amendment No. 1 to SR-NASD-
2005-100. At the Commission staff's request, FINRA staff has agreed to
extend the comment period for the proposed rule change from 21 days to
45 days from its publication in the Federal Register.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Within 35 days of the date of publication of this notice in the
Federal Register or within such longer period (i) as the Commission may
designate up to 90 days of such date if it finds such longer period to
be appropriate and publishes its reasons for so finding or (ii) as to
which the self-regulatory organization consents, the Commission will:
(A) By order approve such proposed rule change, or
(B) Institute proceedings to determine whether the proposed rule
change should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning the foregoing, including whether the proposed rule
change is consistent with the Act. Comments may be submitted by any of
the following methods:
Electronic Comments
Use the Commission's Internet comment form (https://
www.sec.gov/rules/sro.shtml); or
Send an e-mail to rule-comments@sec.gov. Please include
File Number SR-NASD-2005-100 on the subject line.
Paper Comments
Send paper comments in triplicate to Nancy M. Morris,
Secretary, Securities and Exchange Commission, 100 F Street, NE.,
Washington, DC 20549-1090.
All submissions should refer to File Number SR-NASD-2005-100. This file
number should be included on the subject line if e-mail is used. To
help the Commission process and review your comments more efficiently,
please use only one method. The Commission will post all comments on
the Commission's Internet Web site (https://www.sec.gov/rules/
sro.shtml). Copies of the submission, all subsequent amendments, all
written statements with respect to the proposed rule change that are
filed with the Commission, and all written communications relating to
the proposed rule change between the Commission and any person, other
than those that may be withheld from the public in accordance with the
provisions of 5 U.S.C. 552, will be available for inspection and
copying in the Commission's Public Reference Room, 100 F Street, NE.,
Washington, DC 20549, on official business days between the hours of 10
a.m. and 3 p.m. Copies of such filing also will be available for
inspection and copying at the principal office of FINRA. All comments
received will be posted without change; the Commission does
[[Page 59329]]
not edit personal identifying information from submissions. You should
submit only information that you wish to make available publicly. All
submissions should refer to File Number SR-NASD-2005-100 and should be
submitted on or before December 3, 2007.
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\32\ 32 17 CFR 200.30-3(a)(12).
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\32\
Nancy M. Morris,
Secretary.
[FR Doc. E7-20601 Filed 10-18-07; 8:45 am]
BILLING CODE 8011-01-P
