FINRA Suggests Changes to Fixed-Income Research Rules


New York, NY – An article published last week in the Financial Times indicates that US financial regulators are planning to issue new rules in the next few weeks requiring that the conflicts of interest associated with sell-side fixed-income research be addressed in a similar manner as the conflicts inherent in investment bank’s equity research.

Proposed FINRA Rule

According to the FT article, “The staff at the Financial Industry Regulatory Authority, at the urging of the US Securities and Exchange Commission, are set to file new rules with the SEC in the coming weeks that would also bind analysts who cover bonds by some of the same rules.”

This follows an initial rule proposal by FINRA last April where the US regulator said it “observed increased retail investment risk in complex debt securities.”  Click here for our previous discussion on FINRA’s preliminary proposal.

Earlier this month, the Government Accounting Office published a report to Congress called “Additional Actions Could Improve Regulatory Oversight of Analyst Conflicts of Interest”.  In this report, the GAO explained:

“FINRA also has been working to finalize another rule proposal that would address conflicts faced by debt research analysts. The current SRO research rules do not cover debt research analysts, although these analysts face conflicts of interests similar to those faced by their equity analyst counterparts. In the absence of an SRO debt research rule, the SROs have relied on antifraud statutes and SRO rules requiring ethical conduct. They also have encouraged firms—with limited success—to comply voluntarily with industry-developed principles designed to address debt analyst conflicts. FINRA plans to package its two rule proposals together and submit them to SEC in the first half of 2012.”

The final FINRA rule is likely to require that fixed-income analysts who publish research read by retail investors abide by the same rules addressing conflicts of interest that publishing equity analysts are required to follow. There are expected to be exceptions for swaps research, as well research discussing company creditworthiness.  Research targeted to institutional investors is expected to be exempt from these rules, though some form of additional warnings are probably going to be required.

Market Opposition

A number of financial market participants oppose FINRA’s proposed rule for a variety of reasons, including the existence of voluntary guidelines for fixed-income research, and the lack of reported harm to investors.  The Bond Market Association established voluntary rules for fixed-income research in 2004.

However, the GAO reported that as a result of the NASD and NYSE joint interpretive guidance on better managing conflicts of interest in fixed-income research in July 2006, they found that many firms had failed to adhere to BMA’s standards.  The examinations also found several cases where firms failed to establish, maintain, and enforce written supervisory procedures in the fixed-income research area — a fundamental obligation under their rules.

In its January 2012 report, the GAO also discussed one example where conflicts of interest in fixed-income research could have harmed investors.  In this case, a sell-side fixed-income analyst who covered Enron’s debt securities testified in 2001 that she perceived pressure from her superiors not to issue negative public comments on Enron because of Enron’s importance as an investment banking client of the broker-dealer.

Integrity’s View

We are a little surprised that everyone is so worked up about extending equity research rules regarding conflicts of interest to the fixed-income markets.  First, the new FINRA rules are expected to apply only to fixed-income research that is published and distributed to retail investors.  It is our understanding that very few retail investors actually receive fixed-income research.  Consequently, the new rule probably should not apply to most fixed-income research.

Secondly, feedback we have received from market participants suggest that very little fixed-income research is being published today.  Instead, most fixed-income research is provided by “desk analysts” who provide their insights verbally to institutional customers rather than through traditional research reports.  This is unlikely to fall under the new rules as it is not considered actual “research”.

However, any new FINRA rules regarding fixed-income research will mean that regulated firms that produce it will have additional compliance rules and regulations that they will need to comply with – an issue that will cost these firms additional compliance time and money.



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