FINRA Investigating Newest Puerto Rico Issuance of Municipal Bonds

On March 21, 2014, The Financial Industry Regulatory Authority (FINRA) announced that it is investigating trading in Puerto Rico, examining secondary trades in Puerto Rico’s blockbuster $3.5 billion bond deal. FINRA is looking at possible violations of rules requiring minimum sales of $100,000. The greatest concern is that the bonds are being sold to individual investors in violation of securities regulations and FINRA Rules, including FINRA Rule 2111, which requires that a trade be suitable for particular investors. Given the prospectus’ apparent intent to make these institution-only bonds, sales to individual investors would be highly improper.

The self-governed United States territory sold the debt on March 11, 2013, in the largest high-yield offering for the municipal market. The issue provided Puerto Rico with enough cash to pay its bills through June 2015, as the island attempts to prop its budget, giving officials more time to jump-start the economy.

The FINRA investigation comes amid concerns that the new bonds—which now carry junk status after Puerto Rico was cut to junk last month—are being improperly sold to individual investors. The bonds’ prospectus provides that the debt will be issued in denominations of $100,000, absent an upgrade in Puerto Rico’s credit rating. Industry professionals have noted that making the trade size contingent on credit ratings is unusual, and suggests that the writer of the documents intentionally meant to prevent trades to small investors. However, recent trading activity has shown trades in denominations of as little as $5,000—smaller size trades that are more typical of individual investors.

According to Martha Haines, who led the Security and Exchange Commissions’ Municipal Securities office for ten years until 2011, trades below the minimum amount for investors that don’t already own at least $100,000 of the debt violated the Municipal Securities Rulemaking Board’s Rule G-15 subsection F. Ms. Haines explains, that ‘[t]hese [bonds] are intended for institutional purchasers, or at least people that can afford the risk by making it a minimum denomination of $100,000.”

FINRA’s inquiry comes on the heals of similar probes conducted by the Securities and Exchange Commission, who has recently been scrutinizing the way that broker-dealers allocate newly-sold corporate bonds to investors. The Securities and Exchange Commission has gone so far as to solicit banks for information explaining how the new debt is divided amongst buyers and how those bonds are traded after the initial sales.

As of March 21, 2013, the Puerto Rican bonds were trading at 92 cents, the lowest price since the bonds were issued demonstrating the inherent volatility and riskiness inherent in the new issue.

The attorneys at Gana LLP are experienced in representing investors in claims of involving unsuitable investments in Puerto Rican Bonds. Our consultations are free and we welcome all inquiries.