SEC's interest in excessive markups may not make headlines, but it's big news for brokers.

The Securities and Exchange Commission has been making a lot of headlines in the municipal market lately with its campaign to curb political contributions, improve secondary market disclosure, and get a handle on the risks involved in derivative products.

But the agency also has been making its views known, albeit in a much quieter way, on another subject of keen interest to municipal securities firms: When is the markup on a bond excessive?

This summer, the SEC upheld a fine levied by the National Association of Securities Dealers against Investment Planning Inc. of Dubuque, Iowa, and four of its officials for markups on municipal bonds of 4% to 5.99%. The agency concluded that the improper markups represented "extraordinary charges for ordinary transactions."

Last month, the agency reduced the fine imposed by the NASD against First Honolulu Securities and its former chairman for markups below 5%. But it wasn't because the SEC didn't consider them excessive. The SEC shaved back the fine on the grounds that it has only been recently -- in the Investment Planning case -- that regulators have made it clear that markups of more than 4% can be excessive.

Historically, it has been nearly impossible to nail down regulators on the question of what constitutes an excessive markup on a municipal bond. The Municipal Securities Rulemaking Board's Rule G-30 requires that retail prices be "fair and reasonable, taking into consideration all relevant factors."

As far back as 1980, the MSRB solicited comments on whether it should establish "benchmarks" for retail prices. But the agency decided not to, out of concern that setting percentages might encourage firms to charge markups as high as the specified figures.

The SEC, NASD, and MSRB have all made clear that no particular percentage provides firms with a shield against enforcement action. The MSRB concluded in 1980 that "all relevant factors" should be taken into account in setting a markup.

"There is no fixed percentage at which markups are deemed to be fair or unfair," the SEC wrote in its Investment Planning decision announced on Aug. 5. "However, we have seldom had the opportunity to address markups at levels below 5%. This case includes such markups."

The commission said, "It has long been recognized that debt securities markups normally are lower than those for equities, and that, in appropriate circumstances, markups under 5% may be subject to sanction.

"Such circumstances are presented here," said the SEC of Investment Planning's sale to retail customers of high quality zero coupon municipal bonds.

"The markups we have found improper -- 4% and above on various ... municipal securities -- represent extraordinary charges for ordinary transactions." The SEC's decision also applied to Investment Planning's sale of some corporate securities.

The SEC noted that it has previously found unfair markups as low as 5.1% in certain municipal bond transactions. "Moreover, we, along with the NASD and the MSRB, have made clear that no particular percentage provides a safe harbor and that markups below 5% may be unfair." The SEC said that, broadly speaking, a 5% markup serves merely as an outside limit.

In its First Honolulu finding, the SEC noted that the markup on the sale of debt securities has generally been expected to be lower than on the sale of equities. "Although some markups on municipal bonds may reach 5%, that figure might be acceptable in only the most exceptional cases," the agency said.

The Investment Planning and First Honolulu cases signal that the SEC may become increasingly vocal about markups in the 4% range.

That's not the stuff that national headlines are made of. But for the average brokerage firm out trying to avoid pricing pitfalls on a day-to-day basis, it's important news.

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