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Difficulty: Very hardSettlement Dates, Trade Confirmations, and Corporate Actions

On Tuesday, June 2, a retail investor purchases $20,000 par value of corporate bonds directly from a broker-dealer's proprietary inventory. Under FINRA and SEC trade confirmation and settlement rules, which of the following correctly identifies the required firm capacity disclosure, fee disclosure, and regular-way settlement date for this transaction?

  1. The firm must disclose that it acted as a principal, reveal the mark-up charged, and settle the transaction on Wednesday, June 3.Answer
  2. B
    The firm must disclose that it acted as an agent, reveal the commission charged, and settle the transaction on Thursday, June 4.
  3. C
    The firm must disclose that it acted as a principal, reveal the mark-up charged, and settle the transaction on Thursday, June 4.
  4. D
    The firm must disclose that it acted as an agent, reveal the commission charged, and clear the transaction through the Depository Trust Company (DTC) for trade netting prior to Wednesday, June 3 settlement.

Answer

The firm must disclose that it acted as a principal, reveal the mark-up charged, and settle the transaction on Wednesday, June 3.
When a broker-dealer executes a customer order using its own inventory, it is acting in a principal (dealer) capacity. On the trade confirmation, the firm must disclose its principal capacity and the mark-up (or mark-down) applied to the transaction. Under current SEC and FINRA regulations, regular-way settlement for corporate bonds is T+1 (one business day after the trade date). Therefore, a trade executed on Tuesday, June 2 settles on Wednesday, June 3.

Step-by-Step Solution

1
Identify the broker-dealer capacity and fee disclosure rule
Because the broker-dealer filled the purchase out of its own inventory, it acted as a principal (dealer) for its own account and must charge a mark-up (disclosed on the confirmation), rather than acting as an agent (broker) charging a commission.
Broker-dealers trading for/from their own account act in a principal capacity and must disclose mark-ups or mark-downs under FINRA Rule 2232 and SEC Rule 10b-10.
2
Determine the regular-way settlement cycle for corporate bonds
Under standard T+1 regular-way settlement rules, a trade executed on Tuesday, June 2 settles on the next business day, which is Wednesday, June 3.
SEC Rule 15c6-1 mandates T+1 regular-way settlement for corporate bonds, equities, and municipal securities.
3
Synthesize capacity, disclosure, and settlement date
The confirmation must state principal capacity, mark-up disclosure, and a settlement date of Wednesday, June 3.
Combining SEC/FINRA capacity disclosure rules with the standard T+1 settlement timeline isolates the correct answer.

Key Concept

Broker-Dealer Capacity Disclosures and T+1 Regular-Way Settlement
Estimated Time:2m 0s
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Topics

Settlement Dates, Trade Confirmations, and Corporate Actions