SEC Is Probing Brokers of Auction-Rate Bonds

The Securities and Exchange Commission is reviewing whether brokers who help set interest rates on $204 billion of corporate and municipal bonds misled investors and issuers.

The SEC’s enforcement staff asked several brokers of so-called auction-rate bonds to provide “a written report detailing any potentially deceptive, dishonest or unfair practices,” according to a memo that the Bond Market Assn. and other groups sent to their members. The memo didn’t specify which firms the government is probing.

Investors in auction-rate debt buy a long-term security, such as a 30-year bond, and bid through brokers to reset the interest rate as frequently as weekly or monthly. The rate resets in a so-called Dutch auction, in which the lowest price becomes the level at which the entire offering is sold. The risk of manipulation in a Dutch auction is if bids aren’t blind or if brokers and bidders enter into undisclosed arrangements.

Brokers submit bids to an auction agent, often the same firm that underwrites the bonds, on behalf of current and prospective investors. The SEC is investigating whether some of the deals were offered to specific customers in violation of the bond prospectuses, Institutional Investor reported Tuesday.