Major Firms Better Positioned to Circumvent Gift Ban, Rule's Critics Say
The federal rule restricting campaign contributions has struck a tender nerve among executives working for regional municipal bond firms.
So far, these executives have emerged as the rule's harshest critics, fearing they are now at a competitive disadvantage, particularly when vying for business against major Wall Street firms.
"The rule will probably hurt everyone's business a bit," said John O'Connor, head of public finance at William E. Simon & Sons Municipal Securities Inc. in New Jersey. "But we recognize advantages the national firm's have."
Specifically, O'Connor fears that issuers will remember the track record of the large Wall Street firms and their history of raising vast sums of money for state and local officials. While many regional firms used contributions to meet local officials, they could never match the contribution power of the market's largest players.
"The political side understands that everyone operates under these new rules and can't make contributions, but they tend to be grateful for the ones they made in the past," O'Connor said. "So there's some residual value, no question about it."
Regional bond firms underwrite municipal offerings within a specific geographic area. They may not rank as the market's largest underwriters, but over the years, the regionals have carved out strong, local niches.
In New York State, for example, First Albany Corp. is one of the most successful underwriters of state authority debt, and debt sold by towns, counties, and villages in New York.
Locals v. Majors
In the Midwest, firms such as A.G. Edwards & Sons Inc., Dain Bosworth Inc., and George K. Baum & Co. rank among the area's top municipal underwriters. Meanwhile in the Southwest, firms like First Southwest Co. and Rauscher Pierce Refsnes have successfully used their knowledge of local issues to compete with the bigger Wall Street firms.
But the ban on campaign contributions has many regional firms worried. Unable to make their presence felt through campaign funds, the firms question their ability to maintain their markets.
The rule, known as G-37, prohibits bond dealers from underwriting municipal issues in areas of the country where they have made political contributions. The prohibition lasts for two years after the contribution is made. Dealers can make a $250 contribution to state and local officials in the areas where they vote.
The Municipal Securities Rule-making Board enacted the rule on April 25 to end the "pay-to-play schemes" that have rocked the municipal bond market over the past year. At the moment, the Securities and Exchange Commission is investigating firms that have used political contributions to win municipal bond business from state and local issuers -- exactly the kind of situation G-37 is designed to prevent.
Still, many executives from regional bond firms say the contribution ban will not have the great equalizing effect that regulators are banking on. For one thing, large Wall Street firms have the capital and the connections to skirt the ban, the executives say.
At the same time, issuers will now have less incentive to choose regional underwriters, who can no longer pitch bond deals to state and local officials at a local fund-raising parties.
The end result, according to several regional bond executives, could be a near monopoly of bond business in the hands of the large Wall Street securities firms and the securities divisions of the large banks, both of which can manipulate resources outside the rule's guidelines.
In a series of interviews, executives at a number of the nation's largest regional bond firms cited several reasons why the rule has placed regional firms at a disadvantage.
First, major firms are able to mobilize their vast wealth and resources to hire politically connected municipal bond consultants.
Consultants, through their knowledge of the political process or their relationships with government officials, are able to lobby issuers on behalf of clients in the municipal bond market.
One of the market's best known consultants is Michael Daley, the brother of Chicago Mayor Richard Daley. Michael Daley is a partner for the Chicago-based law firm of Daley & George, but enjoys a lucrative side job as a consultant for muni powerhouse Smith Barney Inc., which pays Daley $15,000 a month."
"Larger firms can do this more easily than we can," said one regional investment banker. "They just find it easier to hire relatives, such as a brother, a wife or a son."
Second, the gift ban rule fails to regulate the contribution activities of banks.
Many large commercial banks and mid-sized regional banks have municipal bond departments that compete with regional municipal bond firms. While a bank's securities division is covered by the MSRB rule, its political action committee is not.
The political action committees of such banks are often major contributors to the campaigns of state and local officials in charge of municipal underwriter selections.
In December 1993, for example, Fleet Bank's political action committee made a $500 contribution to the re-election campaign of New York State Comptroller H. Carl McCall.
Fleet Bank's municipal bond affiliate, Fleet Securities, underwrites debt in the New York area, and many securities executives say the bank's contributions will bolster the image of its bond underwriting affiliate.
"If you're a bank, you have a lot more wiggle room under the rule," said one regional bond executive, who asked not to be identified. "Everyone uses what they have to their advantage. If you're a senior executive at a bank's securities branch, I'm sure you'll use this too."
Third, large securities firms can hire consultants and bond lawyers to funnel contributions to state and local officials. Although dealers are prevented from making contributions indirectly, rumors abound of large bond firms that are hiring municipal bond consultants and lawyers to make contributions on their behalf.
Regional executives say even if they were to go this route, they couldn't compete with the same force as the large firms, which as a matter of course have much greater access to lawyers and politically connected consultants that are not directly prohibited from making campaign contributions.
"The rule hurts our business because the politicians still want money, and the contributions will go underground," said one regional bond executive. "Big firms have more money to spend on lawyers, who have suddenly become more important than in the past. Firms can funnel money through lawyers, and the dealers are protected because of attorney-client privilege."
To be sure, not al regional bond executives share this pessimism.
Nelson D. Civello, executive vice president and director of the fixed income group at the Minneapolisbased Dain Bosworth, understands the trepidation of his regional firm colleagues, but doubts that their worst fears will come true.
Civello, who co-chaired a Public Securities Association task force that developed guidelines for firms to implement the contribution ban, said the rule has enough safeguards to protect regional firms from any concerted effort to circumvent the ban,
For example, Civello said, the rule specially prohibits firms form making contributions through consultants and layers. Civello said regional firms will probably police their own areas, watching for instances where any firm attempts to violate the ban.
"I believe it's painfully obvious to issuers, especially in the regions away from the two coasts, when New York flies in bearing gifts," Civello said.
"To the extent that [contributions] are no longer permissible on an endrun basis, the regionals who live and work and breathe and shop in the communities in which they practice their trade will have the advantage," he said. "As a consequence, this will turn out to be a net benefit for the regions."
Richard D. Griffiths, president and chief executive officer of Roosevelt & Cross Inc., also welcomes the contribution ban. Roosevelt & Cross is a regional bond firm located in New York City. Griffiths said political contributions became a factor in the firm's ability to obtain bond business only in the past few years, as issuers began to sell more and more debt on a negotiated basis.
"We were being hurt by the contributions," Griffiths said. "We felt we couldn't build the business without getting involved in campaign contributions. Luckily, this came along."