Bill has taught college undergraduate and MBA classes in finance, economics & management, 40 years of finance experience and has a MBA degree.
MSRB Rule G-27
You want to invest but how can you be sure that your securities broker will not misuse your investment funds or overcharge you?
In 1975, the U.S. Congress created the Municipal Securities Rulemaking Board (MSRB). The MSRB is responsible for creating rules and policies to prevent fraud and misleading practices in the municipal securities industry. It is a private industry group but is overseen by the Securities and Exchange Commission.
The MSRB published Rule G-27, which contains the procedures required of all brokers, dealers and municipal dealers for the supervision of its employees. The intent of these rules is to establish systems and requirements that would hopefully discourage employees from committing fraud or harming customers.
Say the company Absolute Investments is in the municipal bond securities market. Boyd is one of the principals and has been made responsible for overseeing supervision. He decides to look at what Absolute has been doing and to read Rule G-27 to see if they are doing everything they should be.
Firms take risks by failing to comply with rules like Rule G-27. Boyd knows that failing to implement its rules and procedures will make it so its only a matter of time before employees stop complying and end up doing illegal things that harm customers. He certainly doesn't want to see such actions or how they would lead to sanctions of the firm and unwelcome bad publicity.
Brokers, dealers and municipal dealers who are trading in the municipal funds markets are required to do the following:
- understand they have an obligation to supervise their employees.
- establish and maintain a system and program regarding supervision of employees.
- appoint an appropriate principal or principals in each office of the firm to monitor and oversee supervision.
- develop written procedures designed to ensure compliance of all registered agents and employees.
- maintain written records of all reviews and findings.
- audit how the system is working annually or more often.
Because Boyd has been appointed as the appropriate principal for overseeing supervision practices, he must not also be a producing manager. In other words, he must not be responsible for creating trade volume and must be senior to those who are responsible for the actual trading. This provision is intended to avoid a conflict of interest.
A limited size and resources exception was made for firms that do not have enough employees to appoint someone as designated principal who is not involved in the daily running or trading activity of the business. In these cases, one of the owners or principals must be the designated supervisor, but the MSRB must be notified that the firm is using the limited size and resources exception. This usually applies to firms with fewer than 20 registered employees who are doing the trading.
The designated principal is responsible for developing the policy and procedures for implementing the program and supervising the designated principals in outlying offices. Supervision must be documented and reports made to show that the system is working and that any violations by employees are being caught and reported.
Besides developing rules and procedures governing supervision, the broker must also ensure compliance with the rules. Some of the things that the firm must do include the following:
A firm must ensure that procedures are in place to handle all customer complaints.
Boyd at Absolute Investments helped develop the system and rules for the company. One of his functions is to investigate any customer complaints. Helen has an account with XYZ Investments and complained that money in her account seemed to be disappearing. Boyd quickly got Harry, Helen's representative, in his office and made him show all the details of trades in Helen's account.
Boyd makes sure that all actions taken on her complaint are written down and show how the firm responded.
A firm must conduct internal inspections that safeguard customers and test whether:
- customer funds are appropriately safeguarded.
- transmittal of funds between customers and representatives are accurate and documented.
- customer accounts, books and records are being accurately kept.
- changes in customer accounts are being made with appropriate customer approval.
- validation of all changes in customer addresses and information are supported.
Review of Communications
A firm must also review all written and electronic communications between representatives and the public to look for fraud or other illegal activities. The records must be saved and maintained in case they need to be investigated in the future.
Periodic testing of the management control system must be done to see if the system is reasonably designed and to identify any weaknesses or changes that need to be made.
Congress organized the Municipal Securities Rulemaking Board (MSRB) in 1974 to create rules and policies for the municipal securities industry. It is similar in mission to the boards supervising the public securities markets.
The MSRB published Rule G-27, which deals with the supervision of employees to prevent fraud and other illegal practices. Brokers, dealers and investment firms dealing in municipal securities must have stringent supervision systems and procedures in place to ensure that their employees are complying with the law.
Principals of the firm must be appointed to develop and manage these supervision policies and procedures. Firms must be able to prove through written documentation that their system is in compliance with Rule G-27 and that they are doing everything they need to do.
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