The Honorable Mary Schapiro
Securities and Exchange Commission
100 F Street, NE
Washington, DC 20549
Dear Chairman Schapiro:
One of the many challenges on the path to a full economic recovery is the ongoing confusion and uncertainty over the appropriate value of troubled assets such as mortgage-backed securities. The total outstanding debt in mortgage-related and asset-backed securities is worth over $11 trillion—nearly one-third of all outstanding debt in the U.S. bond market.  Given the size of this market, and the central role that mortgage- and asset-backed securities played in the financial crisis, it is imperative that they be regulated under a reporting and dissemination regime that encourages greater price transparency and disclosure.
The Project On Government Oversight (POGO) is writing to raise concerns that the Financial Industry Regulatory Authority's (FINRA) proposed rule for bringing asset- and mortgage-backed securities under the Trade Reporting and Compliance Engine (TRACE) system contains provisions that will indefinitely delay transparency in these markets and will prevent the dissemination of key information to the public, thereby undermining the purported intent of the rule.
FINRA's proposed rule would require that transactions in the following types of securities be reported to the TRACE system: a "security collateralized by any type of financial asset, such as loans, leases, mortgages, or secured or unsecured receivables, and includes but is not limited to an asset-backed security as used in Securities Act Regulation AB, Section 1101(c), a mortgage-backed security, a collateralized mortgage obligation, a synthetic asset-backed security, a collateralized debt obligation, a collateralized bond obligation, a collateralized debt obligation of Asset-Backed Securities or a collateralized debt obligation of collateralized debt obligations." Unfortunately, FINRA's proposed rule also contains provisions that will indefinitely delay the transparency reforms that are so desperately needed for these types of securities. In fact, examining the development of FINRA's water-downed rule will help to illustrate how financial self-regulatory organizations (SROs) in general tend to pay lip service to needed reforms while issuing rules that are overly generous to industry.
In 1998, under pressure from Congress and buy-side traders to improve price transparency, the SEC asked FINRA's predecessor—the National Association of Securities Dealers (NASD)—to create a database for the reporting of transactions in the corporate bond market. In response to this mandate, NASD issued a rule that would require all NASD members to report secondary transactions in specified corporate bond markets to a central database. The vehicle to facilitate this reporting would come to be known as the Trade Reporting and Compliance Engine (TRACE). Under FINRA's original TRACE rules, which took effect on July 1, 2002, the following types of securities were exempt from the reporting requirement: "debt issued by government-sponsored entities, mortgage- or asset-backed securities, collateralized mortgage obligations, and money market instruments." 
In the aftermath of the financial crisis last fall, many experts again highlighted the need for more transparency and price disclosure for the types of securities that were exempt from TRACE reporting. In its white paper on financial regulatory reform, the Treasury Department wrote that "the SEC and the Financial Industry Regulatory Authority (FINRA) should expand the Trade Reporting and Compliance Engine (TRACE), the standard electronic trade reporting database for corporate bonds, to include asset-backed securities." 
However, the proposed rule that FINRA issued in response to Treasury's mandate contains provisions that would indefinitely delay transparency in these markets. Under the current rules, FINRA members are required to report transactions to TRACE within 15 minutes of the transaction, and transaction information for most TRACE-eligible securities is immediately disseminated to the public upon receipt of the transaction report. But under FINRA's proposed rule, transactions in asset-backed securities won't be reported to TRACE until the end of the day, and the information will not be disseminated to the public. Future dissemination would only be possible in limited circumstances pending an indefinite review by FINRA. 
Participants and institutional investors have told POGO that FINRA's restrictions would completely undermine the purported intent of this rule, which is to increase price transparency for the troubled assets that fueled the financial meltdown. Not surprisingly, these restrictions have been endorsed by the American Securitization Forum (ASF) and the Securities Industry and Financial Markets Association (SIFMA),  both of which are lobbying organizations funded by the very same industry that many FINRA executives and board members have worked for. The relationship between FINRA and SIFMA—which the Center for Responsive Politics calls "one of the industry's most vocal trade groups" —is particularly cozy. As you mentioned in a speech when you were FINRA's CEO, a white paper written by SIFMA's predecessor "was one of the sparks that helped light the fuse" that ultimately led to FINRA's creation. In addition, one of the members of FINRA's Board of Governors, Richard Brueckner, also serves on SIFMA's Board of Directors.
In its public comment on FINRA's proposed rule, SIFMA argued that "the impact of such requirements on liquidity could...act to hamper a return to normal market conditions, thus acting counter to governments' efforts to safeguard financial stability and restore the provision of credit and lending to the economy." However, past experience has shown that SIFMA's excuses are largely unfounded.
SIFMA raised similar excuses at a November 2007 conference on a proposal to bring asset-backed securities under the TRACE reporting system. When SIFMA's senior managing director of research and policy was asked if he had any data to support his arguments, he could only point to a survey which showed that 15 other institutional investors shared his view. On the other hand, FINRA's executive vice president of transparency services told the conference attendees that FINRA detected "no empirical evidence of damage to liquidity" resulting from previous efforts to bring new assets under the TRACE system. In fact, a study conducted by Professor Kumar Venkataraman found that the effects of TRACE on the corporate bond market led to a dramatic decrease in trading costs. Professor Venkataraman also explained to the conference attendees that increased transparency gives investors a better tool for valuing securities, improves investor confidence, and can help give regulators early indications of fundamental credit problems. Former SEC Chairman Arthur Levitt—who put forth the original proposal to create TRACE in the late 1990s—also expressed his support for bringing mortgage- and asset-backed securities under the TRACE system, noting that "experience has proven again and again that transparency is a tide that lifts all boats."
We urge you to consider amending FINRA's proposed rule in the following ways: 1) transactions in asset- and mortgage-backed securities should be reported to TRACE within the standard 15-minute timeframe, and 2) information on these transactions should be immediately disseminated to the public. Specifically, investors should be given information on the security's identification number, the quantity, the price, the settlement date of the transaction, and the time of day when the transaction took place. Without these changes, POGO is concerned that the purported goal of FINRA's rule—to make asset- and mortgage-backed securities more transparent—will not be realized.
Thank you in advance for your prompt attention to this matter. If you have any questions or need additional information, please contact me at (202) 347-1122.
CC: Elizabeth M. Murphy, Secretary of the Securities and Exchange Commission
House Committee on Financial Services
House Committee on Oversight and Government Reform
Senate Committee on Banking, Housing, & Urban Affairs
Senate Committee on Finance
1 Securities Industry and Financial Market Association. Outstanding U.S. Bond Market Debt. http://www.sifma.org/research/pdf/Overall_Outstanding.pdf (Downloaded December 17, 2009)
2 U.S. Securities and Exchange Commission. "Self-Regulatory Organizations; Financial Industry Regulatory Authority, Inc.; Notice of Filing of Proposed Rule Change to Define Asset-Backed Securities, Mortgage-Backed Securities, and Other Similar Securities as TRACE-Eligible Securities and Require the Reporting of Transactions in Such Securities to TRACE." October 21, 2009. http://www.sec.gov/rules/sro/finra/2009/34-60860.pdf (Downloaded December 17, 2009)
3 U.S. Securities and Exchange Commission. "SEC Chairman Arthur Levitt Announces Measures to Improve Transparency of Corporate Debt Market." September 9, 1998. http://www.sec.gov/news/press/pressarchive/1998/98-81.txt (Downloaded December 17, 2009)
4 U.S. Securities and Exchange Commission. "Self-Regulatory Organizations; Notice of Filing of Proposed Rule Change by the National Association of Securities Dealers, Inc. Relating to the Creation of a Corporate Bond Trade Reporting and Transaction Dissemination Facility and the Elimination of Nasdaq's Fixed Income Pricing System (''FIPS'')". Federal Register. Vol. 64, No. 237. Friday, December 10, 1999. http://frwebgate.access.gpo.gov/cgi-bin/getdoc.cgi?dbname=1999_register&docid=99-32060-filed.pdf; and Financial Industry Regulatory Authority. "Rule 6700: Trade Reporting and Compliance Engine (TRACE)." Rules and Regulations – FINRA Manual Online. http://finra.complinet.com/en/display/display_main.html?rbid=2403&element_id=4399 (Downloaded December 17, 2009)
5 For instance, the Group of Thirty recommended that the "disclosure and dissemination regime for asset-backed and other structured fixed-income financial products (including securities and other financial products) in the public and private markets should be enhanced." Group of Thirty. Financial Reform: A Framework for Financial Stability. January 15, 2009. http://www.group30.org/pubs/reformreport.pdf (Downloaded December 17, 2009)
6 U.S. Department of the Treasury. A New Foundation: Rebuilding Financial Supervision and Regulation. June 17, 2009. http://www.financialstability.gov/docs/regs/FinalReport_web.pdf (Downloaded December 17, 2009)
7 U.S. Securities and Exchange Commission. "Self-Regulatory Organizations; Financial Industry Regulatory Authority, Inc.; Notice of Filing of Proposed Rule Change to Define Asset-Backed Securities, Mortgage-Backed Securities, and Other Similar Securities as TRACE-Eligible Securities and Require the Reporting of Transactions in Such Securities to TRACE." October 21, 2009. http://www.sec.gov/rules/sro/finra/2009/34-60860.pdf (Downloaded December 17, 2009)
8 George Miller, American Securitization Forum, and Randolph Snook, Securities Industry and Financial Markets Association. "Public Comment re: Notice of Filing of Proposed Rule Change to Define Asset-Backed Securities, Mortgage- Backed Securities, and Other Similar Securities as TRACE-Eligible Securities and Require the Reporting of Transactions in Such Securities to TRACE (Release No. 34–60860; File No. SR–FINRA–2009–065)." November 18, 2009. http://www.sec.gov/comments/sr-finra-2009-065/finra2009065-4.pdf (Downloaded December 17, 2009)
9 Center for Responsive Politics. "Hedge Funds, Private Equity Firms, Payday Lenders Seek Financial Security from Congress." Capital Eye Blog. November 30, 2009. http://www.opensecrets.org/news/2009/11/hedge-funds-private-equity-fir.html (Downloaded December 17, 2009)
10 Financial Industry Regulatory Authority. "Remarks by Mary Schapiro, Chief Executive Officer, FINRA." November 9, 2007. http://www.finra.org/Newsroom/Speeches/Schapiro/P037447 (Downloaded December 17, 2009)
11 Financial Industry Regulatory Authority. "FINRA Board of Governors." http://www.finra.org/AboutFINRA/Leadership/P009756. (Downloaded December 17, 2009); Securities Industry and Financial Markets Association. "Board and Officers." http://www.sifma.org/about/board.html. (Downloaded December 17, 2009).
12 John Hintze. "Could TRACE Reporting Bring ABS Pricing into Focus?" Asset Securitization Report. November 19, 2007. Vol. 7, No. 44. pp. 11-13. http://saberpartners.com/press/articlepages/TRACE-ABS-ASR-11-19-07.pdf (Downloaded December 17, 2009)