Document ID: SEC-2015-0345-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: Financial Industry Regulatory Authority, Inc.
Posted Date: 2015-02-26T05:00Z

[Federal Register Volume 80, Number 38 (Thursday, February 26, 2015)]
[Notices]
[Pages 10538-10549]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2015-03963]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-74340; File No. SR-FINRA-2014-048]

Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Order Instituting Proceedings To Determine Whether To 
Approve or Disapprove a Proposed Rule Change To Adopt FINRA Rule 2242; 
Debt Research Analysts and Debt Research Reports

February 20, 2015.

I. Introduction

    On November 14, 2014, Financial Industry Regulatory Authority, Inc. 
(``FINRA'') filed with the Securities and Exchange Commission (``SEC'' 
or ``Commission''), pursuant to Section 19(b)(1) of the Securities 
Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 thereunder,\2\ a 
proposed rule to adopt new FINRA Rule 2242 (Debt Research Analysts and 
Debt Research Reports) to address conflicts of interest relating to the 
publication and distribution of debt research reports. The proposal was 
published for comment in the Federal Register on November 24, 2014.\3\ 
The

[[Page 10539]]

Commission received five comments on the proposal.\4\ This order 
institutes proceedings under Section 19(b)(2)(B) of the Act \5\ to 
determine whether to approve or disapprove the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Exchange Act Release No. 73623 (Nov. 18, 2014); 79 FR 69905 
(Nov. 24, 2014) (``Notice''). On January 6, 2015, FINRA consented to 
extending the time period for the Commission to either approve or 
disapprove the proposed rule change, or to institute proceedings to 
determine whether to approve or disapprove the proposed rule change, 
to February 20, 2015.
    \4\ See Letter from Kevin Zambrowicz, Associate General Counsel 
& Managing Director and Sean Davy, Managing Director, SIFMA, dated 
Dec. 15, 2014 (``SIFMA''), Letter from Hugh D. Berkson, President-
Elect, Public Investors Arbitration Bar Association, dated Dec. 15, 
2014 (``PIABA Debt''), Letter from Yoon-Young Lee, WilmerHale, dated 
Dec. 16, 2014 (``WilmerHale Debt''), Letter from William Beatty, 
President and Washington (State) Securities Administrator, North 
American Securities Administrators Association, Inc., dated Dec. 19, 
2014 (``NASAA Debt''), and Letter from Kurt N. Schacht, CFA, 
Managing Director, Standards and Financial Market Integrity and 
Linda L. Rittenhouse, Director, Capital Markets Policy, CFA 
Institute, dated Feb. 9, 2015 (``CFA Institute'').
    \5\ 15 U.S.C. 78s(b)(2)(B).
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II. Description of the Proposed Rule Change

    As described more fully in the Notice, FINRA proposed to adopt 
FINRA Rule 2242 to address conflicts of interest relating to the 
publication and distribution of debt research reports. Proposed FINRA 
Rule 2242 would adopt a tiered approach that FINRA believed, in 
general, would provide retail debt research recipients with extensive 
protections similar to those provided to recipients of equity research 
under current and proposed FINRA rules,\6\ with modifications to 
reflect differences in the trading of debt securities.
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    \6\ See Exchange Act Release No. 73622 (Nov. 18, 2014); 79 FR 
69939 (Nov. 24, 2014) (SR-FINRA-2014-047) (proposing amendments to 
current SRO rules relating to equity research).
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    As stated above, the Commission received five comments on the 
proposal. All of these commenters expressed general support for the 
proposal.

A. Definitions

    The proposed rule change would adopt defined terms for purposes of 
proposed FINRA Rule 2242.\7\ Most of the defined terms closely follow 
the defined terms for equity research in NASD Rule 2711, as amended by 
the equity research filing, with minor changes to reflect their 
application to debt research. A summary of selected proposed 
definitions are set forth below.\8\
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    \7\ See proposed FINRA Rule 2242(a) for all of the proposed 
defined terms.
    \8\ See Notice for a full description of all definitions. FINRA 
stated that the proposed rule change also would adopt defined terms 
to implement the tiered structure of proposed FINRA Rule 2242, 
including the terms ``qualified institutional buyer'' or ``QIB,'' 
which is part of the description of an institutional investor for 
purposes of the Rule, and ``retail investor.''
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    The proposed rule change would define the term ``debt research 
report'' as any written (including electronic) communication that 
includes an analysis of a debt security or an issuer of a debt security 
and that provides information reasonably sufficient upon which to base 
an investment decision, excluding communications that solely constitute 
an equity research report as defined in proposed Rule 2241(a)(11).\9\ 
The proposed definition and exceptions noted below would generally 
align with the definition of ``research report'' in NASD Rule 2711, 
while incorporating aspects of the Regulation AC definition of 
``research report''.\10\
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    \9\ See proposed FINRA Rule 2242(a)(3). The proposed rule change 
does not incorporate a proposed exclusion from the equity research 
rule's definition of ``research report'' of communications 
concerning open-end registered investment companies that are not 
listed or traded on an exchange (``mutual funds'') because it is not 
necessary since mutual fund securities are equity securities under 
Section 3(a)(11) of the Exchange Act and therefore would not be 
captured by the proposed definition of ``debt research report'' in 
the proposed rule change.
    \10\ In aligning the proposed definition with the Regulation AC 
definition of research report, the proposed definition differs in 
minor respects from the definition of ``research report'' in NASD 
Rule 2711. For example, the proposed definition of ``debt research 
report'' would apply to a communication that includes an analysis of 
a debt security or an issuer of a debt security, while the 
definition of ``research report'' in NASD Rule 2711 applies to an 
analysis of equity securities of individual companies or industries.
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    Communications that constitute statutory prospectuses that are 
filed as part of the registration statement would not be included in 
the definition of a debt research report. In general, the term debt 
research report also would not include a number of communications, 
similar to the equity proposal, if they do not include an analysis of, 
or recommend or rate, individual debt securities or issuers.\11\ The 
term debt research report also, in general, would not include a number 
of communications, similar to the equity proposal, even if they include 
an analysis of an individual debt security or issuer and information 
reasonably sufficient upon which to base an investment decision.\12\
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    \11\ These include, for example, discussions of broad-based 
indices and commentaries on economic, political, or market 
conditions. See Notice.
    \12\ These include statistical summaries of multiple companies' 
financial data, including listings of current ratings that do not 
include an analysis of individual companies' data and an analysis 
prepared for a specific person or a limited group of fewer than 15 
persons. See Notice.
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    The proposed rule change would define the term ``debt security'' as 
any ``security'' as defined in Section 3(a)(10) of the Exchange Act, 
except for any ``equity security'' as defined in Section 3(a)(11) of 
the Exchange Act, any ``municipal security'' as defined in Section 
3(a)(29) of the Exchange Act, any ``security-based swap'' as defined in 
Section 3(a)(68) of the Exchange Act, and any ``U.S. Treasury 
Security'' as defined in paragraph (p) of FINRA Rule 6710.\13\ The 
proposed definition excludes municipal securities, in part because of 
FINRA's jurisdictional limitations with respect to such securities. The 
proposed definition excludes security-based swaps given the nascent and 
evolving nature of security-based swap regulation.\14\ However, FINRA 
stated it intends to monitor regulatory developments with respect to 
security-based swaps and may determine to later include such securities 
in the definition of debt security.
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    \13\ See proposed FINRA Rule 2242(a)(4).
    \14\ The Commission's rulemaking in the area of security-based 
swaps, pursuant to Title VII of the Dodd-Frank Wall Street Reform 
and Consumer Protection Act (the ``Dodd-Frank Act''), is ongoing. In 
June 2011, the Commission proposed rules addressing policies and 
procedures with respect to research and analysis for security-based 
swaps as part of its proposal governing business conduct standards 
for security-based swap dealers and major security-based swap 
participants. See Securities Exchange Act Release No. 64766 (June 
29, 2011), 76 FR 42396 (July 18, 2011) (Business Conduct Standards 
for Security-Based Swap Dealers and Major Security-Based Swap 
Participants). In June 2012, the Commission staff sought comment on 
a statement of general policy for the sequencing of compliance dates 
for rules applicable to security-based swaps. See Securities 
Exchange Act Release No. 67177 (June 11, 2012), 77 FR 35625 (June 
14, 2012) (Statement of General Policy on the Sequencing of the 
Compliance Dates for Final Rules Applicable to Security-Based Swaps 
Adopted Pursuant to the Securities Exchange Act of 1934 and the 
Dodd-Frank Wall Street Reform and Consumer Protection Act). In May 
2013, the Commission re-opened comment on the statement of general 
policy and on the outstanding rulemaking releases. The comment 
period was reopened until July 22, 2013. See Securities Exchange Act 
Release No. 69491 (May 1, 2013), 78 FR 30800 (May 23, 2013) 
(Reopening of Comment Periods for Certain Proposed Rulemaking 
Releases and Policy Statements Applicable to Security-Based Swaps).
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    The proposed rule change would define the term ``investment banking 
department'' as any department or division, whether or not identified 
as such, that performs any investment banking service on behalf of a 
member.\15\ The term ``investment banking services'' would include, 
without limitation, acting as an underwriter, participating in a 
selling group in an offering for the issuer or otherwise acting in 
furtherance of a public offering of the issuer; acting as a financial 
adviser in a merger or acquisition; providing venture capital or

[[Page 10540]]

equity lines of credit or serving as placement agent for the issuer or 
otherwise acting in furtherance of a private offering of the 
issuer.\16\
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    \15\ See proposed FINRA Rule 2242(a)(8).
    \16\ See proposed FINRA Rule 2242(a)(9). The current definition 
in NASD Rule 2711 includes, without limitation, many common types of 
investment banking services. The proposed rule change and the equity 
research filing propose to add the language ``or otherwise acting in 
furtherance of'' either a public or private offering to further 
emphasize that the term ``investment banking services'' is meant to 
be construed broadly.
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    Under the proposed rule change the term ``qualified institutional 
buyer'' would have the same meaning as under Rule 144A of the 
Securities Act.\17\
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    \17\ See proposed FINRA Rule 2242(a)(12).
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    The proposed rule change would define ``research department'' as 
any department or division, whether or not identified as such, that is 
principally responsible for preparing the substance of a debt research 
report on behalf of a member.\18\ The proposed rule change would define 
the term ``subject company'' as the company whose debt securities are 
the subject of a debt research report or a public appearance.\19\ 
Finally, the proposed rule change would define the term ``third-party 
debt research report'' as a debt research report that is produced by a 
person or entity other than the member.\20\
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    \18\ See proposed FINRA Rule 2242(a)(14).
    \19\ See proposed FINRA Rule 2242(a)(15).
    \20\ See proposed FINRA Rule 2242(a)(16).
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    One commenter requested that the proposal define the term ``sales 
and trading personnel'' as ``persons who are primarily responsible for 
performing sales and trading activities, or exercising direct 
supervisory authority over such persons.''\21\ The commenter's proposed 
definition is intended to clarify that the proposed restrictions on 
sales and trading personnel activities should not extend to: (1) Senior 
management who do not directly supervise those activities but have a 
reporting line from such personnel; or (2) persons who occasionally 
function in a sales and trading capacity.
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    \21\ WilmerHale Debt.
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    One commenter asked FINRA to include an exclusion from the 
definition of ``debt research report'' for private placement memoranda 
and similar offering-related documents prepared in connection with 
investment banking services transactions.\22\ The commenter noted that 
such offering-related documents typically are prepared by investment 
banking personnel or non-research personnel on behalf of investment 
banking personnel. The commenter asserted that absent an express 
exception, the proposals could turn investment banking personnel into 
research analysts and make the rule unworkable. The commenter noted 
that NASD Rule 2711(a) excludes communications that constitute 
statutory prospectuses that are filed as part of a registration 
statement and contended that the basis for that exception should apply 
equally to private placement memoranda and similar offering-related 
documents.
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    \22\ WilmerHale Debt.
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    One commenter suggested that FINRA revise the definition of 
``subject company'' to specify that the term means the ``issuer (rather 
than the ``company'') whose debt securities are the subject of a debt 
research report or a public appearance.''\23\ The commenter noted that, 
among other things, the proposal would cover debt issued by persons 
other than corporate entities, such as foreign sovereigns or special 
purpose vehicles.
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    \23\ WilmerHale Debt.
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B. Identifying and Managing Conflicts of Interest

    Similar to the proposed equity research rules, the proposed rule 
change contains an overarching provision that would require members to 
establish, maintain and enforce written policies and procedures 
reasonably designed to identify and effectively manage conflicts of 
interest related to the preparation, content and distribution of debt 
research reports, public appearances by debt research analysts, and the 
interaction between debt research analysts and persons outside of the 
research department, including investment banking, sales and trading 
and principal trading personnel, subject companies and customers.\24\ 
Specifically, members must implement written policies and procedures 
reasonably designed to promote objective and reliable debt research 
that reflects the truly held opinions of debt research analysts and to 
prevent the use of debt research reports or debt research analysts to 
manipulate or condition the market or favor the interests of the firm 
or current or prospective customers or class of customers.\25\ The 
proposed rule change then sets forth minimum requirements for those 
written policies and procedures.
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    \24\ See proposed FINRA Rule 2242(b)(1).
    \25\ See proposed FINRA Rule 2242(b)(2).
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    According to FINRA, these provisions set out the fundamental 
obligation for a member to establish and maintain a system to identify 
and mitigate conflicts to foster integrity and fairness in its debt 
research products and services. FINRA stated that these provisions are 
also intended to require firms to be more proactive in identifying and 
managing conflicts as new research products, affiliations and 
distribution methods emerge. FINRA believes this approach allows for 
some flexibility to manage identified conflicts, with some specified 
prohibitions and restrictions where disclosure does not adequately 
mitigate them. According to FINRA, most of the minimum requirements 
have been experience tested and found effective in the equity research 
rules.
    The rule proposal thus would adopt a policies and procedures 
approach to identification and management of research-related conflicts 
of interest and require those policies and procedures to, at a minimum, 
prohibit or restrict particular conduct. Commenters expressed several 
concerns with the approach.
    Two commenters asserted that the mix of a principles-based approach 
with prescriptive requirements was confusing in places and posed 
operational challenges. In particular, the commenters recommended 
eliminating the minimum standards for the policies and procedures.\26\ 
One of those commenters had previously expressed support for the 
proposed policies-based approach with minimum requirements,\27\ but 
asserted that the proposed rule text requiring procedures to ``at a 
minimum, be reasonably designed to prohibit'' specified conduct is 
either superfluous or confusing. Another commenter favored retaining 
the proscriptive approach in the current equity rules and also 
requiring that firms maintain policies and procedures designed to 
ensure compliance.\28\ Another commenter supported the types of 
communications between debt research analysts and other persons that 
may be permitted by a firm's policies and procedures.\29\ One commenter 
questioned the necessity of the ``preamble'' requiring policies and 
procedures that ``restrict or limit activities by research analysts 
that can reasonably be expected to compromise their objectivity'' that 
precedes specific prohibited activities related to investment banking 
transactions.\30\
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    \26\ SIFMA and WilmerHale Debt.
    \27\ Letter from Amal Aly, Managing Director and Associate 
General Counsel, SIFMA, to Marcia E. Asquith, Corporate Secretary, 
FINRA, dated November 14, 2008 regarding Regulatory Notice 08-55 
(Research Analysts and Research Reports).
    \28\ NASAA Debt.
    \29\ CFA Institute.
    \30\ WilmerHale Debt.
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    One commenter asked FINRA to refrain from using the concept of 
``reliable'' research in the proposal as it may inappropriately connote 
accuracy

[[Page 10541]]

in the context of a research analyst's opinions.\31\
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    \31\ SIFMA.
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1. Prepublication Review
    As proposed, the first of these minimum requirements would require 
that the policies and procedures must, at a minimum, be reasonably 
designed to prohibit prepublication review, clearance or approval of 
debt research by persons involved in investment banking, sales and 
trading or principal trading, and either restrict or prohibit such 
review, clearance and approval by other non-research personnel other 
than legal and compliance.\32\ The policies and procedures also must 
prohibit prepublication review of a debt research report by a subject 
company, other than for verification of facts.\33\ No specific comments 
were received on this provision.
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    \32\ See proposed FINRA Rule 2242(b)(2)(A) and (B). FINRA 
clarified that a firm would be required to specify in its policies 
and procedures the circumstances, if any, where prepublication 
review would be permitted as necessary and appropriate pursuant to 
proposed FINRA Rule 2242(b)(2)(B), for example, where non-research 
personnel are best situated to verify select facts or where 
administrative personnel review for formatting. FINRA noted that 
members still would be subject to the overarching requirement to 
have policies and procedures reasonably designed to effectively 
manage conflicts of interest between research analysts and those 
outside of the research department. See also proposed FINRA Rule 
2242.05 (Submission of Sections of a Draft Research Report for 
Factual Review).
    \33\ See proposed FINRA Rule 2242(b)(2)(N).
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2. Coverage Decisions
    The proposed rule change would require that policies and procedures 
must restrict or limit input by investment banking, sales and trading 
and principal trading personnel to ensure that research management 
independently makes all final decisions regarding the research coverage 
plan.\34\ However, the provision does not preclude personnel from these 
or any other department from conveying customer interests and coverage 
needs, so long as final decisions regarding the coverage plan are made 
by research management.
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    \34\ See proposed FINRA Rule 2242(b)(2)(C).
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    One commenter asked FINRA to eliminate as redundant the term 
``independently'' from the provisions permitting non-research personnel 
to have input into research coverage, so long as research management 
``independently makes all final decisions regarding the research 
coverage plan.''\35\ The commenter asserted that inclusion of 
``independently'' is confusing since the proposal would permit input 
from non-research personnel into coverage decisions.
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    \35\ WilmerHale Debt.
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3. Solicitation and Marketing of Investment Banking Transactions
    A member's written policies and procedures would also be required, 
at a minimum, restrict or limit activities by debt research analysts 
that can reasonably be expected to compromise their objectivity.\36\ 
This would include prohibiting participation in pitches and other 
solicitations of investment banking services transactions and road 
shows and other marketing on behalf of issuers related to such 
transactions. The proposed rule change proposes a Supplementary 
Material that incorporates an existing FINRA interpretation for the 
equity research rules that prohibits in pitch materials any information 
about a member's debt research capacity in a manner that suggests, 
directly or indirectly, that the member might provide favorable debt 
research coverage.\37\
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    \36\ See proposed FINRA Rule 2242(b)(2)(L).
    \37\ See proposed FINRA Rule 2242.01 (Efforts to Solicit 
Investment Banking Business).
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    The proposed rule change also would prohibit investment banking 
personnel from directing debt research analysts to engage in sales or 
marketing efforts related to an investment banking services transaction 
or any communication with a current or prospective customer about an 
investment banking services transaction.\38\ In addition, the proposed 
rule change proposes a Supplementary Material to provide that, 
consistent with this requirement, no debt research analyst may engage 
in any communication with a current or prospective customer in the 
presence of investment banking department personnel or company 
management about an investment banking services transaction.\39\
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    \38\ See proposed FINRA Rule 2242(b)(2)(M).
    \39\ See proposed FINRA Rule 2242.02(a) (Restrictions on 
Communications with Customers and Internal Personnel).
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    One commenter asked that FINRA modify the prohibition on debt 
analyst attendance at road shows to permit passive participation since 
there is less opportunity to meet and assess issuer management than in 
the equity context.\40\
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    \40\ WilmerHale Debt.
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4. Supervision
    The proposed rule change would require that the policies and 
procedures prohibit persons engaged in investment banking activities 
sales and trading or principal trading activities from supervision of 
debt research analysts.\41\ No specific comments were received on this 
provision.
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    \41\ See proposed FINRA Rule 2242(b)(2)(D). FINRA stated that 
the provision is substantively the same as current NASD Rule 
2711(b)(1), which they characterized as a core structural separation 
requirement in the equity research rules they believe is essential 
to safeguarding analyst objectivity.
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5. Information Barriers
    The proposed rule change would require that the policies and 
procedures establish information barriers or other institutional 
safeguards to ensure that debt research analysts are insulated from the 
review, pressure or oversight by persons engaged in investment banking 
services, principal trading or sales and trading activities or others 
who might be biased in their judgment or supervision.\42\
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    \42\ See proposed FINRA Rule 2242(b)(2)(H).
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    Some commenters suggested that ``review'' was unnecessary in this 
provision because the review of debt research analysts was addressed 
sufficiently in other parts of the proposed rule.\43\ One commenter 
further suggested that the terms ``review'' and ``oversight'' are 
redundant.\44\ One commenter asked FINRA to clarify that the 
information barriers or other institutional safeguards required by the 
proposed rule are not intended to prohibit or limit activities that 
would otherwise be permitted under other provisions of the rule.\45\ 
The commenter also asserted that the terms ``bias'' and ``pressure'' 
are broad and ambiguous on their face and requested that FINRA clarify 
that for purposes of the information barriers requirement that they are 
intended to address persons who may try to improperly influence 
research.\46\ As an example, the commenter asked whether a bias would 
be present if an analyst was pressured to change the format of a 
research report to comply with the research department's standard 
procedures or the firm's technology specifications. One commenter asked 
FINRA to modify the information barriers or other institutional 
safeguards requirement to conform the provision to FINRA's ``reasonably 
designed'' standard for related policies and procedures.\47\
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    \43\ SIFMA and WilmerHale Debt.
    \44\ WilmerHale Debt.
    \45\ WilmerHale Debt.
    \46\ WilmerHale Debt.
    \47\ WilmerHale Debt.
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6. Budget and Compensation
    A member's written policies and procedures would also be required 
to limit the determination of a firm's debt research department budget 
to senior

[[Page 10542]]

management, excluding senior management engaged in investment banking 
or principal trading activities, and without regard to specific 
revenues or results derived from investment banking.\48\ However, the 
proposed rule change would expressly permit all persons to provide 
input to senior management regarding the demand for and quality of debt 
research, including product trends and customer interests. It further 
would allow consideration by senior management of a firm's overall 
revenues and results in determining the debt research budget and 
allocation of expenses.
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    \48\ See proposed FINRA Rule 2242(b)(2)(E).
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    With respect to compensation determinations, a member's written 
policies and procedures would be required to prohibit compensation 
based on specific investment banking services or trading transactions 
or contributions to a firm's investment banking or principal trading 
activities and prohibit investment banking and principal trading 
personnel from input into the compensation of debt research 
analysts.\49\ Further, the firm's written policies and procedures would 
be required to establish that the compensation of a debt research 
analyst who is primarily responsible for the substance of a research 
report be reviewed and approved at least annually by a committee that 
reports to a member's board of directors or, if the member has no board 
of directors, a senior executive officer of the member.\50\ This 
committee may not have representation from investment banking personnel 
or persons engaged in principal trading activities and must consider 
the enumerated factors when reviewing a debt research analyst's 
compensation, if applicable.\51\
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    \49\ See proposed FINRA Rule 2242(b)(2)(D) and (F).
    \50\ See proposed FINRA Rule 2242(b)(2)(G).
    \51\ These include, for example, the debt research analyst's 
individual performance, including the analyst's productivity and the 
quality of the debt research analyst's research. See Notice.
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    Neither investment banking personnel nor persons engaged in 
principal trading activities may give input with respect to the 
compensation determination for debt research analysts. However, sales 
and trading personnel may give input to debt research management as 
part of the evaluation process in order to convey customer feedback, 
provided that final compensation determinations are made by research 
management, subject to review and approval by the compensation 
committee.\52\ The committee, which may not have representation from 
investment banking or persons engaged in principal trading activities, 
must document the basis for each debt research analyst's compensation, 
including any input from sales and trading personnel.
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    \52\ See proposed FINRA Rule 2242(b)(2)(D) and (G).
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    One commenter requested that the proposal define the terms 
``principal trading activities,'' ``principal trading personnel,'' and 
``persons engaged in principal trading activities'' to exclude traders 
who are primarily involved in customer accommodation or customer 
facilitation trading, such as market makers that trade on a principal 
basis.\53\ The commenter stated that the exclusion is necessary to 
allow those traders to provide feedback from clients for the purposes 
of evaluating debt research analysts for compensation determination. 
More directly to that point, the same commenter and an additional 
commenter asserted that the proposal should not prohibit those engaged 
in principal trading activities from providing customer feedback as 
part of the evaluation and compensation process for a debt research 
analyst.\54\ They contended that the fixed income markets operate 
primarily on a principal basis and prohibiting such input would have a 
broad impact on research management's ability to appropriately evaluate 
and compensate debt research analysts. Another commenter asked for 
clarification of the term ``principal trading'' because it believes the 
term ``sales and trading'' already encompasses all agency, principal 
and proprietary trading activities.\55\ The debt proposal imposes 
greater restrictions on interaction between debt research analysts and 
principal trading personnel than between debt research analysts and 
sales and trading personnel because the magnitude of the conflict is 
greater with respect to the former.
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    \53\ WilmerHale Debt.
    \54\ SIFMA and WilmerHale Debt.
    \55\ SIFMA.
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7. Personal Trading Restrictions
    Under the proposed rule change, a member's written policies and 
procedures would be required to restrict or limit trading by a ``debt 
research analyst account'' in securities, derivatives and funds whose 
performance is materially dependent upon the performance of securities 
covered by the debt research analyst.\56\ The procedures would be 
required to ensure that those accounts, supervisors of debt research 
analysts and associated persons with the ability to influence the 
content of debt research reports do not benefit in their trading from 
knowledge of the content or timing of debt research reports before the 
intended recipients of such research have had a reasonable opportunity 
to act on the information in the report.\57\ Furthermore, the 
procedures would also be required to generally prohibit a debt research 
analyst account from purchasing or selling any security or any option 
or derivative of such security in a manner inconsistent with the debt 
research analyst's most recently published recommendation, except that 
they may define circumstances of financial hardship (e.g., 
unanticipated significant change in the personal financial 
circumstances of the beneficial owner of the research analyst account) 
in which the firm will permit trading contrary to that recommendation. 
In determining whether a particular trade is contrary to an existing 
recommendation, FINRA stated that firms would be permitted to take into 
account the context of a given trade, including the extent of coverage 
of the subject security. While the proposed rule change does not 
include a recordkeeping requirement, FINRA stated it expects members to 
evidence compliance with their policies and procedures and retain any 
related documentation in accordance with FINRA Rule 4511.
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    \56\ See proposed FINRA Rule 2242(b)(2)(J). See Notice for a 
description of the term ``debt research analyst account.''
    \57\ See proposed FINRA Rule 2242.07 (Ability to Influence the 
Content of a Research Report) which would provide that for the 
purposes of the rule, an associated person with the ability to 
influence the content of a debt research report is an associated 
person who, in the ordinary course of that person's duties, has the 
authority to review the debt research report and change that debt 
research report prior to publication or distribution.
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    The proposed rule change includes Supplementary Material .10, which 
would provide that FINRA would not consider a research analyst account 
to have traded in a manner inconsistent with a research analyst's 
recommendation where a member has instituted a policy that prohibits 
any research analyst from holding securities, or options on or 
derivatives of such securities, of the companies in the research 
analyst's coverage universe, provided that the member establishes a 
reasonable plan to liquidate such holdings consistent with the 
principles in paragraph (b)(2)(J)(i) and such plan is approved by the 
member's legal or compliance department.\58\
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    \58\ See proposed FINRA Rule 2242.10.
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    No specific comments were received on this provision.
8. Retaliation and Promises of Favorable Research
    The proposed rule change would require that the policies and 
procedures must prohibit direct or indirect

[[Page 10543]]

retaliation or threat of retaliation against debt research analysts by 
any employee of the firm for publishing research or making a public 
appearance that may adversely affect the member's current or 
prospective business interests.\59\ The policies and procedures would 
also be required to prohibit explicit or implicit promises of favorable 
debt research, specific research content or a specific rating or 
recommendation as inducement for the receipt of business or 
compensation.\60\ No specific comments were received on these 
provisions.
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    \59\ See proposed FINRA Rule 2242(b)(2)(I). This provision is 
not intended to limit a member's authority to discipline or 
terminate a debt research analyst, in accordance with the member's 
written policies and procedures, for any cause other than writing an 
adverse, negative, or otherwise unfavorable research report or for 
making similar comments during a public appearance.
    \60\ See proposed FINRA Rule 2242(b)(2)(K).
---------------------------------------------------------------------------

9. Joint Due Diligence With Investment Banking Personnel
    The proposed rule change would establish a proscription with 
respect to joint due diligence activities--i.e., due diligence by the 
debt research analyst in the presence of investment banking department 
personnel--during a specified time period. Specifically, the proposed 
rule change states that FINRA would interpret the overarching principle 
requiring members to, among other things, establish, maintain and 
enforce written policies and procedures that address the interaction 
between debt research analysts, banking and subject companies,\61\ to 
prohibit the performance of joint due diligence prior to the selection 
of underwriters for the investment banking services transaction.\62\ No 
specific comments were received on this provision.
---------------------------------------------------------------------------

    \61\ See proposed FINRA Rule 2242(b)(1)(C).
    \62\ See proposed FINRA Rule 2242.09 (Joint Due Diligence).
---------------------------------------------------------------------------

10. Communications Between Debt Research Analysts and Trading Personnel
    The proposed rule change would delineate the prohibited and 
permissible interactions between debt research analysts and sales and 
trading and principal trading personnel. The proposed rule change would 
require members to establish, maintain and enforce written policies and 
procedures reasonably designed to prohibit sales and trading and 
principal trading personnel from attempting to influence a debt 
research analyst's opinions or views for the purpose of benefiting the 
trading position of the firm, a customer or a class of customers.\63\ 
It would further prohibit debt research analysts from identifying or 
recommending specific potential trading transactions to sales and 
trading or principal trading personnel that are inconsistent with such 
debt research analyst's currently published debt research reports or 
from disclosing the timing of, or material investment conclusions in, a 
pending debt research report.\64\
---------------------------------------------------------------------------

    \63\ See proposed FINRA Rule 2242.03(a)(1) (Information Barriers 
between Research Analysts and Trading Desk Personnel).
    \64\ See proposed FINRA Rule 2242.03(a)(2) (Information Barriers 
between Research Analysts and Trading Desk Personnel).
---------------------------------------------------------------------------

    The proposed rule change would permit sales and trading and 
principal trading personnel to communicate customers' interests to a 
debt research analyst, so long as the debt research analyst does not 
respond by publishing debt research for the purpose of benefiting the 
trading position of the firm, a customer or a class of customers.\65\ 
The proposed rule change also would permit sales and trading and 
principal trading personnel to seek the views of debt research analysts 
regarding the creditworthiness of the issuer of a debt security and 
other information regarding an issuer of a debt security that is 
reasonably related to the price or performance of the debt security, so 
long as, with respect to any covered issuer, such information is 
consistent with the debt research analyst's published debt research 
report and consistent in nature with the types of communications that a 
debt research analyst might have with customers. In determining what is 
consistent with the debt research analyst's published debt research, a 
member would be permitted to consider the context, including that the 
investment objectives or time horizons being discussed differ from 
those underlying the debt research analyst's published views.\66\ 
Finally, debt research analysts would be permitted to seek information 
from sales and trading and principal trading personnel regarding a 
particular debt instrument, current prices, spreads, liquidity and 
similar market information relevant to the debt research analyst's 
valuation of a particular debt security.\67\
---------------------------------------------------------------------------

    \65\ See proposed FINRA Rule 2242.03(b)(1) (Information Barriers 
between Research Analysts and Trading Desk Personnel).
    \66\ See proposed FINRA Rule 2242.03(b)(3) (Information Barriers 
between Research Analysts and Trading Desk Personnel).
    \67\ See proposed FINRA Rule 2242.03(b)(4) (Information Barriers 
between Research Analysts and Trading Desk Personnel).
---------------------------------------------------------------------------

    The proposed rule change clarifies that communications between debt 
research analysts and sales and trading or principal trading personnel 
that are not related to sales and trading, principal trading or debt 
research activities would be permitted to take place without 
restriction, unless otherwise prohibited.\68\
---------------------------------------------------------------------------

    \68\ See proposed FINRA Rule 2242.03(c) (Information Barriers 
between Research Analysts and Trading Desk Personnel).
---------------------------------------------------------------------------

    One commenter asked that FINRA clarify that members that have 
developed policies and procedures consistent with FINRA Rule 5280 
(Trading Ahead of Research Reports) would also be in compliance with 
the debt proposal's expectation of structural separation between 
investment banking and debt research, and between sales and trading and 
principal trading and debt research.\69\
---------------------------------------------------------------------------

    \69\ WilmerHale Debt. Among other things, Rule 5280 requires 
members to establish, maintain and enforce policies and procedures 
reasonably designed to restrict or limit the information flow 
between research department personnel, or other persons with 
knowledge of the content or timing of a research report, and trading 
department personnel, so as to prevent trading department personnel 
from utilizing non-public advance knowledge of the issuance or 
content of a research report for the benefit of the member or any 
other person. See FINRA Rule 5280.
---------------------------------------------------------------------------

    The commenter also asked FINRA to delete the term ``attempting'' in 
the proposed Supplementary Material .03(a)(1), the provision which 
would require members to have policies and procedures reasonably 
designed to prohibit sales and trading and principal trading personnel 
from ``attempting to influence a debt research analyst's opinion or 
views for the purpose of benefitting the trading position of the firm, 
a customer, or a class of customers.'' \70\ The commenter stated that 
it is unclear how a firm should enforce a prohibition on attempts to 
influence.
---------------------------------------------------------------------------

    \70\ WilmerHale Debt.
---------------------------------------------------------------------------

    The commenter further expressed concern that the term ``pending'' 
is vague in the above-cited provision.\71\ The commenter suggested that 
FINRA delete the term or confirm that ``pending'' means ``imminent 
publication of a debt research report.''
---------------------------------------------------------------------------

    \71\ WilmerHale Debt.
---------------------------------------------------------------------------

    As explained above, Supplementary Material .03(b)(3) provides that 
in determining what is consistent with a debt research analyst's 
published debt research for purposes of sharing certain views with 
sales and trading and principal trading personnel, members would be 
permitted to consider the context, including that the investment 
objectives or time horizons being discussed may differ from those 
underlying the debt analyst's published views. One commenter asked 
FINRA to clarify that the standard may be applied

[[Page 10544]]

wherever consistency with a debt research analyst's views may be 
assessed under the proposed debt rule, such as with respect to debt 
research analyst account trading or providing customized analysis, 
recommendations, or trade ideas to sales and trading, principal 
trading, and customers.\72\
---------------------------------------------------------------------------

    \72\ WilmerHale Debt.
---------------------------------------------------------------------------

11. Restrictions on Communications With Customers and Internal Sales 
Personnel
    The proposed rule change would apply standards to communications 
with customers and internal sales personnel. Any written or oral 
communication by a debt research analyst with a current or prospective 
customer or internal personnel related to an investment banking 
services transaction would be required to be fair, balanced and not 
misleading, taking into consideration the overall context in which the 
communication is made.\73\ Consistent with the prohibition on 
investment banking department personnel directly or indirectly 
directing a debt research analyst to engage in sales or marketing 
efforts related to an investment banking services transaction or 
directing a debt research analyst to engage in any communication with a 
current or prospective customer about an investment banking services 
transaction, no debt research analyst would be permitted to engage in 
any communication with a current or prospective customer in the 
presence of investment banking department personnel or company 
management about an investment banking services transaction. No 
specific comments were received on this provision.
---------------------------------------------------------------------------

    \73\ See proposed FINRA Rule 2242.02(b) (Restrictions on 
Communications with Customers and Internal Personnel).
---------------------------------------------------------------------------

C. Content and Disclosure in Research Reports

    The proposed rule change would, in general, adopt the disclosures 
in the equity research rule for debt research, with modifications to 
reflect the different characteristics of the debt market. The proposed 
rule change would require members to establish, maintain and enforce 
written policies and procedures reasonably designed to ensure that 
purported facts in their debt research reports are based on reliable 
information.\74\ While there is no obligation to employ a rating system 
under the proposed rule, members that choose to employ a rating system 
would be required to clearly define in each debt research report the 
meaning of each rating in the system, including the time horizon and 
any benchmarks on which a rating is based. In addition, the definition 
of each rating would be required to be consistent with its plain 
meaning.\75\
---------------------------------------------------------------------------

    \74\ See proposed FINRA Rule 2242(c)(1)(A).
    \75\ See proposed FINRA Rule 2242(c)(2).
---------------------------------------------------------------------------

    Consistent with the equity rules, irrespective of the rating system 
a member employs, a member would be required to disclose, in each debt 
research report that includes a rating, the percentage of all debt 
securities rated by the member to which the member would assign a 
``buy,'' ``hold'' or ``sell'' rating.\76\ In addition, a member would 
be required to disclose in each debt research report the percentage of 
subject companies within each of the ``buy,'' ``hold'' and ``sell'' 
categories for which the member has provided investment banking 
services within the previous 12 months.\77\ All such information would 
be required to be current as of the end of the most recent calendar 
quarter or the second most recent calendar quarter if the publication 
date of the debt research report is less than 15 calendar days after 
the most recent calendar quarter.\78\
---------------------------------------------------------------------------

    \76\ See proposed FINRA Rule 2242(c)(2)(A).
    \77\ See proposed FINRA Rule 2242(c)(2)(B).
    \78\ See proposed FINRA Rule 2242(c)(2)(C).
---------------------------------------------------------------------------

    If a debt research report contains a rating for a subject company's 
debt security and the member has assigned a rating to such debt 
security for at least one year, the debt research report would be 
required to show each date on which a member has assigned a rating to 
the debt security and the rating assigned on such date. This 
information would be required for the period that the member has 
assigned any rating to the debt security or for a three-year period, 
whichever is shorter.\79\ Unlike the equity research rules, the 
proposed rule change would not require those ratings to be plotted on a 
price chart because of limits on price transparency, including daily 
closing price information, with respect to many debt securities.
---------------------------------------------------------------------------

    \79\ See proposed FINRA Rule 2242(c)(3).
---------------------------------------------------------------------------

    The proposed rule change would require \80\ a member to disclose in 
any debt research report at the time of publication or distribution of 
the report:
---------------------------------------------------------------------------

    \80\ See proposed FINRA Rule 2242(c)(4).
---------------------------------------------------------------------------

     If the debt research analyst or a member of the debt 
research analyst's household has a financial interest in the debt or 
equity securities of the subject company (including, without 
limitation, any option, right, warrant, future, long or short 
position), and the nature of such interest;
     if the debt research analyst has received compensation 
based upon (among other factors) the member's investment banking, sales 
and trading or principal trading revenues;
     if the member or any of its affiliates: managed or co-
managed a public offering of securities for the subject company in the 
past 12 months; received compensation for investment banking services 
from the subject company in the past 12 months; or expects to receive 
or intends to seek compensation for investment banking services from 
the subject company in the next three months;
     if, as of the end of the month immediately preceding the 
date of publication or distribution of a debt research report (or the 
end of the second most recent month if the publication date is less 
than 30 calendar days after the end of the most recent month), the 
member or its affiliates have received from the subject company any 
compensation for products or services other than investment banking 
services in the previous 12 months; \81\
---------------------------------------------------------------------------

    \81\ See also discussion of proposed FINRA Rule 2242.04 
(Disclosure of Compensation Received by Affiliates) below.
---------------------------------------------------------------------------

     if the subject company is, or over the 12-month period 
preceding the date of publication or distribution of the debt research 
report has been, a client of the member, and if so, the types of 
services provided to the issuer. Such services, if applicable, shall be 
identified as either investment banking services, non-investment 
banking securities-related services or non-securities services;
     if the member trades or may trade as principal in the debt 
securities (or in related derivatives) that are the subject of the debt 
research report; \82\
---------------------------------------------------------------------------

    \82\ This provision is analogous to the equity research rule 
requirement to disclose market making activity.
---------------------------------------------------------------------------

     if the debt research analyst received any compensation 
from the subject company in the previous 12 months; and
     any other material conflict of interest of the debt 
research analyst or member that the debt research analyst or an 
associated person of the member with the ability to influence the 
content of a debt research report knows or has reason to know at the 
time of the publication or distribution of a debt research report.\83\
---------------------------------------------------------------------------

    \83\ For example, FINRA would consider it to be a material 
conflict of interest if the debt research analyst or a member of the 
debt research analyst's household serves as an officer, director or 
advisory board member of the subject company.
---------------------------------------------------------------------------

    The proposed rule change would incorporate a proposed amendment to 
the corresponding provision in the equity research rules that expands 
the existing ``catch all'' disclosure to require disclosure of material 
conflicts known

[[Page 10545]]

not only by the research analyst, but also by any ``associated person 
of the member with the ability to influence the content of a research 
report.'' In so doing, the proposed rule change would capture material 
conflicts of interest that, for example, only a supervisor or the head 
of research may be aware of. The ``reason to know'' standard would not 
impose a duty of inquiry on the debt research analyst or others who can 
influence the content of a debt research report. Rather, it would cover 
disclosure of those conflicts that should reasonably be discovered by 
those persons in the ordinary course of discharging their functions.
    The proposed equity research rules include an additional disclosure 
if the member or its affiliates maintain a significant financial 
interest in the debt or equity of the subject company, including, at a 
minimum, if the member or its affiliates beneficially own 1% or more of 
any class of common equity securities of the subject company. FINRA did 
not include this provision in the proposed debt research rule because, 
unlike equity holdings, firms do not typically have systems to track 
ownership of debt securities.
    The proposed rule change would provide that a member would be 
permitted to satisfy the disclosure requirement with respect to receipt 
of non-investment banking services compensation by an affiliate by 
implementing written policies and procedures reasonably designed to 
prevent the debt research analyst and associated persons of the member 
with the ability to influence the content of debt research reports from 
directly or indirectly receiving information from the affiliate as to 
whether the affiliate received such compensation.\84\ In addition, a 
member would be permitted to satisfy the disclosure requirement with 
respect to the receipt of investment banking compensation from a 
foreign sovereign by a non-U.S. affiliate of the member by implementing 
written policies and procedures reasonably designed to prevent the debt 
research analyst and associated persons of the member with the ability 
to influence the content of debt research reports from directly or 
indirectly receiving information from the non-U.S. affiliate as to 
whether such non-U.S. affiliate received or expects to receive such 
compensation from the foreign sovereign. However, a member would be 
required to disclose receipt of compensation by its affiliates from the 
subject company (including any foreign sovereign) in the past 12 months 
when the debt research analyst or an associated person with the ability 
to influence the content of a debt research report has actual knowledge 
that an affiliate received such compensation during that time period.
---------------------------------------------------------------------------

    \84\ See proposed FINRA Rule 2242.04 (Disclosure of Compensation 
Received by Affiliates).
---------------------------------------------------------------------------

    The proposed rule change would adopt from the equity research rules 
the general exception for disclosure that would reveal material non-
public information regarding specific potential future investment 
banking transactions of the subject company.\85\ Similar to the equity 
research rules, the proposed rule change would require that disclosures 
be presented on the front page of debt research reports or the front 
page must refer to the page on which the disclosures are found. 
Electronic debt research reports, however, may provide a hyperlink 
directly to the required disclosures. All disclosures and references to 
disclosures required by the proposed rule must be clear, comprehensive 
and prominent.\86\
---------------------------------------------------------------------------

    \85\ See proposed FINRA Rule 2242(c)(5).
    \86\ See proposed FINRA Rule 2242(c)(6).
---------------------------------------------------------------------------

    Like the equity research rule, the proposed rule change would 
permit a member that distributes a debt research report covering six or 
more companies (compendium report) to direct the reader in a clear 
manner to the applicable disclosures. Electronic compendium reports 
must include a hyperlink to the required disclosures. Paper-based 
compendium reports must provide either a toll-free number or a postal 
address to request the required disclosures and also may include a Web 
address of the member where the disclosures can be found.\87\
---------------------------------------------------------------------------

    \87\ See proposed FINRA Rule 2242(c)(7).
---------------------------------------------------------------------------

    One commenter opposed as overbroad the proposed expansion of the 
current ``catch-all'' disclosure requirement to include ``any other 
material conflict of interest of the research analyst or member that a 
research analyst or an associated person of the member with the ability 
to influence the content of a research report knows or has reason to 
know'' at the time of publication or distribution of research 
report.\88\ (emphasis added) The commenter expressed concern about the 
emphasized language.
---------------------------------------------------------------------------

    \88\ WilmerHale Debt.
---------------------------------------------------------------------------

    One commenter requested confirmation that members may rely on 
hyperlinked disclosures for research reports that are delivered 
electronically, even if these reports are subsequently printed out by 
customers.\89\
---------------------------------------------------------------------------

    \89\ WilmerHale Debt.
---------------------------------------------------------------------------

    One commenter expressed concern about the requirements that a 
member disclose in retail debt research reports its distribution of all 
debt security ratings (and the percentage of subject companies in each 
buy/hold/sell category for which the member has provided investment 
banking services within the previous 12 months) and historical ratings 
information on the debt securities that are the subject of the debt 
research report for a period of three years or the time during which 
the member has assigned a rating, whichever is shorter.\90\ The 
commenter asked FINRA to eliminate these provisions because they are 
impractical and provide minimal benefit to investors in the context of 
debt research, even though they may be very useful in the equity 
context.\91\ The commenter stated that the large number of bond issues 
followed by analysts make the provisions especially burdensome and do 
not allow for helpful comparisons for investors across debt securities 
or issuers. With respect to the ratings distribution requirements, the 
commenter asserted that in some cases, a debt analyst may assign a 
rating to the issuer that applies to all of that issuer's bonds, 
thereby skewing the distribution because those issuers will be 
overrepresented in the distribution. The commenter also stated that the 
tracking requirements for these provisions would be particularly 
burdensome, given the numerous bonds issued by the same subject company 
and the fact that bonds are constantly being replaced with newer ones. 
Finally, the commenter stated that the three-year look back period is 
too long and suggested instead a one-year period if FINRA retains the 
historical rating table requirement.
---------------------------------------------------------------------------

    \90\ WilmerHale Debt.
    \91\ WilmerHale Debt.
---------------------------------------------------------------------------

    The same commenter also requested that FINRA allow members to 
provide a hyperlink or Web address to Web-based disclosures in all debt 
research reports, rather than requiring the disclosures within a 
printed report.\92\ The commenter noted that while the Commission has 
interpreted Section 15D(b) of the Act \93\ to require disclosure in 
each equity report, the law does not apply to debt research.
---------------------------------------------------------------------------

    \92\ WilmerHale Debt.
    \93\ 15 U.S.C. 78o-6(b).
---------------------------------------------------------------------------

D. Disclosures in Public Appearances

    The proposed rule change closely parallels the equity research 
rules with respect to disclosure in public appearances. Under the 
proposed rule, a debt research analyst would be required to disclose in 
public appearances: \94\
---------------------------------------------------------------------------

    \94\ See proposed FINRA Rule 2242(d)(1).

---------------------------------------------------------------------------

[[Page 10546]]

     If the debt research analyst or a member of the debt 
research analyst's household has a financial interest in the debt or 
equity securities of the subject company (including, without 
limitation, whether it consists of any option, right, warrant, future, 
long or short position), and the nature of such interest;
     if, to the extent the debt research analyst knows or has 
reason to know, the member or any affiliate received any compensation 
from the subject company in the previous 12 months;
     if the debt research analyst received any compensation 
from the subject company in the previous 12 months;
     if, to the extent the debt research analyst knows or has 
reason to know, the subject company currently is, or during the 12-
month period preceding the date of publication or distribution of the 
debt research report, was, a client of the member. In such cases, the 
debt research analyst also must disclose the types of services provided 
to the subject company, if known by the debt research analyst; or
     any other material conflict of interest of the debt 
research analyst or member that the debt research analyst knows or has 
reason to know at the time of the public appearance.
    However, a member or debt research analyst would not be required to 
make any such disclosure to the extent it would reveal material non-
public information regarding specific potential future investment 
banking transactions of the subject company.\95\ Unlike in debt 
research reports, the ``catch all'' disclosure requirement in public 
appearances would apply only to a conflict of interest of the debt 
research analyst or member that the analyst knows or has reason to know 
at the time of the public appearance and does not extend to conflicts 
that an associated person with the ability to influence the content of 
a research report or public appearance knows or has reason to know.
---------------------------------------------------------------------------

    \95\ See proposed FINRA Rule 2242(d)(2).
---------------------------------------------------------------------------

    The proposed rule change would require members to maintain records 
of public appearances by debt research analysts sufficient to 
demonstrate compliance by those debt research analysts with the 
applicable disclosure requirements for public appearances. Such records 
would be required to be maintained for at least three years from the 
date of the public appearance.\96\
---------------------------------------------------------------------------

    \96\ See proposed FINRA Rule 2242(d)(3).
---------------------------------------------------------------------------

    No specific comments were received on this provision not already 
discussed in connection with the disclosures that would be required in 
research reports.

E. Disclosure Required by Other Provisions

    With respect to both research reports and public appearances, the 
proposed rule change would require that, in addition to the disclosures 
required under the proposed rule, members and debt research analysts 
must comply with all applicable disclosure provisions of FINRA Rule 
2210 (Communications with the Public) and the federal securities 
laws.\97\ No specific comments were received on this provision.
---------------------------------------------------------------------------

    \97\ See proposed FINRA Rule 2242(e).
---------------------------------------------------------------------------

F. Distribution of Member Research Reports

    The proposed rule change, like the proposed amendments to the 
equity research rules, would codify an existing interpretation of FINRA 
Rule 2010 (Standards of Commercial Honor and Principles of Trade) and 
provides additional guidance regarding selective--or tiered--
dissemination of a firm's debt research reports. The proposed rule 
change would require firms to establish, maintain and enforce written 
policies and procedures reasonably designed to ensure that a debt 
research report is not distributed selectively to internal trading 
personnel or a particular customer or class of customers in advance of 
other customers that the member has previously determined are entitled 
to receive the debt research report.\98\ The proposed rule change 
includes further guidance to explain that firms may provide different 
debt research products and services to different classes of customers, 
provided the products are not differentiated based on the timing of 
receipt of potentially market moving information and the firm discloses 
its research dissemination practices to all customers that receive a 
research product.\99\
---------------------------------------------------------------------------

    \98\ See proposed FINRA Rule 2242(f).
    \99\ See proposed FINRA Rule 2242.06 (Distribution of Member 
Research Products).
---------------------------------------------------------------------------

    One commenter supported the provisions as proposed with general 
disclosure,\100\ while another contended that FINRA should require 
members to disclose when its research products and services do, in 
fact, contain a recommendation contrary to the research product or 
service received by other customers.\101\ The commenter favoring 
general disclosure asserted that disclosure of specific instances of 
contrary recommendations would impose significant burdens unjustified 
by the investor protection benefits. The commenter stated that a 
specific disclosure requirement would require close tracking and 
analysis of every research product or service to determine if a 
contrary recommendation exists. The commenter further stated that the 
difficulty of complying with such a requirement would be exacerbated in 
large firms by the number of research reports published and research 
analysts employed and the differing audiences for research products and 
services.\102\ The commenter asserted that some firms may publish tens 
of thousands of research reports each year and employ hundreds of 
analysts across various disciplines and that a given research analyst 
or supervisor could not reasonably be expected to know of all other 
research products and services that may contain differing views.
---------------------------------------------------------------------------

    \100\ WilmerHale Debt.
    \101\ PIABA Debt.
    \102\ WilmerHale Debt.
---------------------------------------------------------------------------

    Another commenter expressed concern that the proposal raises issues 
about the parity of information received by retail and institutional 
investors, and whether research provided to institutional investors 
could contain views that differ from those in research to retail 
investors.\103\
---------------------------------------------------------------------------

    \103\ CFA Institute.
---------------------------------------------------------------------------

G. Distribution of Third-Party Debt Research Reports

    The proposed rule change would incorporate the current standards 
for third-party equity research, including the distinction between 
independent and non-independent third-party research with respect to 
the review and disclosure requirements. In addition, the proposed rule 
change would adopt an expanded requirement in the proposed equity 
research rules that requires members to disclose any other material 
conflict of interest that can reasonably be expected to have influenced 
the member's choice of a third-party research provider or the subject 
company of a third-party research report.\104\
---------------------------------------------------------------------------

    \104\ See Notice for a full explanation of the treatment of 
third-party and independent third-party debt research reports.
---------------------------------------------------------------------------

    No specific comments were received on this provision.

H. Obligations of Persons Associated With a Member

    The proposed rule change would clarify the obligations of each 
associated person under those provisions of the proposed rule that 
require a member to restrict or prohibit certain conduct by 
establishing, maintaining and enforcing particular policies and 
procedures. Specifically, the proposed rule change provides that, 
consistent with FINRA Rule 0140, persons associated with a

[[Page 10547]]

member would be required to comply with such member's written policies 
and procedures as established pursuant to the proposed rule. Failure of 
an associated person to comply with such policies and procedures would 
constitute a violation of the proposed rule.\105\ In addition, 
consistent with Rule 0140, the proposed rule states in Supplementary 
Material .08 that it would be a rule violation for an associated person 
to engage in the restricted or prohibited conduct to be addressed 
through the establishment, maintenance and enforcement of written 
policies and procedures required by provisions of FINRA Rule 2242, 
including applicable Supplementary Material, that embed in the policies 
and procedures specific obligations on individuals.
---------------------------------------------------------------------------

    \105\ See proposed FINRA Rule 2242.08 (Obligations of Persons 
Associated with a Member).
---------------------------------------------------------------------------

    Some commenters suggested FINRA eliminate this language in the 
supplementary material that provides that the failure of an associated 
person to comply with the firm's policies and procedures constitutes a 
violation of the proposed rule itself.\106\ These commenters argued 
that because members may establish policies and procedures that go 
beyond the requirements set forth in the rule, the provision may have 
the unintended consequence of discouraging firms from creating 
standards in their policies and procedures that extend beyond the rule. 
One of those commenters suggested that the remaining language in the 
supplementary material adequately holds individuals responsible for 
engaging in restricted or prohibited conduct covered by the 
proposals.\107\
---------------------------------------------------------------------------

    \106\ SIFMA and WilmerHale Debt.
    \107\ WilmerHale Debt.
---------------------------------------------------------------------------

I. Exemption for Members With Limited Principal Trading Activity or 
Investment Banking Activity

    The proposed rule change would exempt members with limited 
principal trading activity or limited investment banking activity from 
the review, supervision, budget, and compensation provisions in the 
proposed rule related to principal trading and investment banking 
personnel, respectively.\108\ The limited principal trading exemption 
would apply to firms that engage in principal trading activity where, 
in absolute value on an annual basis, the member's trading gains or 
losses on principal trades in debt securities are $15 million or less 
over the previous three years, on average per year, and the member 
employs fewer than 10 debt traders. The limited investment banking 
exemption would apply, as it does in the equity rules, to firms that 
have managed or co-managed 10 or fewer investment banking services 
transactions on average per year, over the previous three years and 
generated $5 million or less in gross investment banking revenues from 
those transactions.
---------------------------------------------------------------------------

    \108\ See proposed FINRA Rule 2242(h) and (i).
---------------------------------------------------------------------------

    One commenter questioned whether the exemptions could compromise 
the independence and accuracy of the analysis and opinions 
provided.\109\ The commenter further expressed concern that the 
exemption might allow traders to act on debt research prior to 
publication and distribution of that research. The commenter noted 
FINRA's commitment to monitor firms that avail themselves of the 
exemptions to evaluate whether the thresholds for the exemptions are 
appropriate and asked FINRA to publish findings that could help 
properly weigh the burdens on small firms while ensuring the 
independence of investment research. The commenter also encouraged 
FINRA to provide additional guidance as to what specific measures 
should be taken to ensure that debt research analysts are insulated 
from pressure by persons engaged in principal trading or sales and 
trading activities or other persons who might be biased in their 
judgment or supervision.
---------------------------------------------------------------------------

    \109\ CFA Institute.
---------------------------------------------------------------------------

J. Exemption for Debt Research Reports Provided to Institutional 
Investors

    The proposed rule change would exempt debt research provided solely 
to certain eligible institutional investors from many of the proposed 
rule's provisions, provided that a member obtains consent from the 
institutional investor to receive that research and the research 
reports contain specified disclosure to alert recipients that the 
reports do not carry the same protections as retail debt research.\110\ 
The proposal distinguishes between larger and smaller institutions in 
the manner in which the consent must be obtained. Firms may use 
negative consent where the customer meets the definition of QIB and 
satisfies the institutional suitability standards of FINRA Rule 2111 
with respect to debt transactions and strategies. Institutional 
accounts that meet the definition of FINRA Rule 4512(c), but do not 
satisfy the higher tier standard required for negative consent, may 
affirmatively elect in writing to receive institutional debt research.
---------------------------------------------------------------------------

    \110\ See proposed FINRA Rule 2242(j).
---------------------------------------------------------------------------

    One commenter opposed providing any exemption for debt research 
distributed solely to eligible institutional investors, contending that 
it would deprive the market's largest participants of the important 
protections of the proposed rules for retail debt research.\111\ 
Another commenter reiterated concerns expressed in response to an 
earlier iteration of the debt research proposal that the proposed 
standard for negative consent would be difficult to implement and would 
disadvantage institutional investors who are capable of, and in fact, 
make independent investment decisions about debt transactions and 
strategies. The commenter suggested as an alternative that the 
institutional investor standard should be based on only on the 
institutional suitability standard in Rule 2111.\112\
---------------------------------------------------------------------------

    \111\ PIABA Debt.
    \112\ SIFMA.
---------------------------------------------------------------------------

    Another commenter supported the proposed tiered approach for how 
institutional investors may receive research reports.\113\ The 
commenter stated that a QIB presumably has the sophistication and human 
and financial resources to evaluate debt research without the 
disclosures and other protections that accompany reports provided to 
retail investors. The commenter also supported permitting an 
institutional investor that does not fall within the higher tier 
category to receive the debt research without the retail investor 
protections if it notifies the firm in writing of its election.
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    \113\ CFA Institute.
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    Another commenter asked that FINRA confirm that, in distributing 
debt research reports under the institutional debt research framework 
to certain non-U.S. institutional investors who are customers of a 
member's non-U.S. broker-dealer affiliate, the member may rely on 
similar classifications in the non-U.S. institutional investors' home 
jurisdictions.\114\ The commenter contended that this is necessary 
because some global firm distribute their debt research reports to non-
U.S. institutional investors who may not have been vetted as QIBs for a 
variety of reasons.
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    \114\ WilmerHale Debt.
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    The same commenter asked FINRA to clarify the application of the 
institutional debt research framework to desk analysts or other 
personnel who are part of the trading desk and are not ``research 
department'' personnel. In particular, the commenter suggested that 
proposed Rules 2242(b)(2)(H) (with respect to pressuring) and (b)(2)(L) 
should not apply when sales and

[[Page 10548]]

trading personnel or principal trading personnel publish debt research 
reports in reliance on the institutional research exemption because the 
requirements of those provisions cannot be reconciled with the inherent 
nature of conflicts present. \115\ Those provisions would require firms 
to have policies and procedures to: (i) Establish information barrier 
or other institutional safeguards reasonably designed to insulate debt 
research analysts from pressure by, among others, principal trading or 
sales and trading personnel; and (ii) restrict or limit activities by 
debt research analyst that can reasonably be expected to compromise 
their objectivity.
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    \115\ WilmerHale Debt.
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K. General Exemptive Authority

    The proposed rule change would provide FINRA, pursuant to the FINRA 
Rule 9600 Series, with authority to conditionally or unconditionally 
grant, in exceptional and unusual circumstances, an exemption from any 
requirement of the proposed rule for good cause shown, after taking 
into account all relevant factors and provided that such exemption is 
consistent with the purposes of the rule, the protection of investors, 
and the public interest.\116\ No specific comments were received on 
this provision.
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    \116\ See proposed FINRA Rule 2242(k).
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L. Other General Comments

    One commenter asked FINRA to consider amending FINRA Rule 2210 to 
exclude debt research reports from that rule's filing requirements, 
since there is an exception from the filing requirements for equity 
research reports that concern only equity securities that trade on an 
exchange.\117\
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    \117\ WilmerHale Debt.
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    Also, one commenter requested that the implementation date be at 
least 12 months after SEC approval of the proposed rule change and that 
FINRA sequence the compliance dates of the equity research filing and 
the proposed rule change in that order.\118\ Another commenter 
requested that FINRA provide a ``grace period'' of one year or the 
maximum time permissible, if that is less than one year, between the 
adoption of the proposed rule and the implementation date.\119\
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    \118\ SIFMA.
    \119\ WilmerHale Debt.
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III. Proceedings to Determine Whether to Approve or Disapprove SR-
FINRA-2014-048

    The Commission is instituting proceedings pursuant to Section 
19(b)(2)(B) of the Act to determine whether the proposals should be 
approved or disapproved.\120\ Institution of such proceedings is 
appropriate at this time in view of the legal and policy issues raised 
by the proposal. Institution of proceedings does not indicate that the 
Commission has reached any conclusions with respect to any of the 
issues involved. Rather, as described below, the Commission seeks and 
encourages interested persons to comment on the proposed rule change.
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    \120\ 15 U.S.C. 78s(b)(2). Section 19(b)(2)(B) of the Act 
provides that proceedings to determine whether to disapprove a 
proposed rule change must be concluded within 180 days of the date 
of publication of notice of the filing of the proposed rule change. 
The time for conclusion of the proceedings may be extended for up to 
an additional 60 days if the Commission finds good cause for such 
extension and publishes its reasons for so finding or if the self-
regulatory organization consents to the extension.
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    Pursuant to Section 19(b)(2)(B) of the Act,\121\ the Commission is 
providing notice of the grounds for disapproval under consideration. 
The Commission is instituting proceedings to allow for additional 
analysis of the proposed rule change's consistency with Section 
15A(b)(9) of the Act,\122\ which requires that FINRA's rules be 
designed to, among other things, promote just and equitable principles 
of trade, remove impediments to and perfect the mechanism of a free and 
open market and a national market system, and, in general, to protect 
investors and the public interest.
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    \121\ 15 U.S.C. 78s(b)(2).
    \122\ 15 U.S.C. 78o-3(b)(6).
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IV. Procedure: Request for Written Comments

    The Commission requests that interested persons provide written 
submissions of their views, data, and arguments with respect to the 
concerns identified above, as well as any others they may have with the 
proposed rule change. In particular, the Commission invites the written 
views of interested persons concerning whether the proposed rule change 
is inconsistent with Section 15A(b)(9) or any other provision of the 
Act, or the rules and regulation thereunder. Although there do not 
appear to be any issues relevant to approval or disapproval which would 
be facilitated by an oral presentation of views, data, and arguments, 
the Commission will consider, pursuant to Rule 19b-4, any request for 
an opportunity to make an oral presentation.\123\
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    \123\ Section 19(b)(2) of the Act, as amended by the Securities 
Act Amendments of 1975, Pub. L. 94-29 (June 4, 1975), grants the 
Commission flexibility to determine what type of proceeding--either 
oral or notice and opportunity for written comments--is appropriate 
for consideration of a particular proposal by a self-regulatory 
organization. See Securities Act Amendments of 1975, Senate Comm. on 
Banking, Housing & Urban Affairs, S. Rep. No. 75, 94th Cong., 1st 
Sess. 30 (1975).
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    Interested persons are invited to submit written data, views, and 
arguments regarding whether the proposed rule changes should be 
approved or disapproved by March 19, 2015. Any person who wishes to 
file a rebuttal to any other person's submission must file that 
rebuttal by April 2, 2015.
    Comments may be submitted by any of the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml); or
     Send an email to rule-comments@sec.gov. Please include 
File Number SR-FINRA-2014-048 on the subject line.

Paper Comments

     Send paper comments in triplicate to Brent J. Fields, 
Secretary, Securities and Exchange Commission, 100 F Street NE., 
Washington, DC 20549-1090.
    All submissions should refer to File Number SR-FINRA-2014-048. This 
file number should be included on the subject line if email 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 (http://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 Web site viewing and 
printing 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-FINRA-2014-048 and should be 
submitted on or before March 19, 2015.

[[Page 10549]]

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\124\
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    \124\ 17 CFR 200.30-3(a)(57).
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Jill M. Peterson,
Assistant Secretary.
[FR Doc. 2015-03963 Filed 2-25-15; 8:45 am]
BILLING CODE 8011-01-P