Municipal bonds are fundamentally different than corporate debt due to the limited amount of information investors can obtain from the issuer. Corporate issuers that offer their bonds to the public must file accurate quarterly financial reports. However, municipal issuers have far lower federal disclosure requirements for secondary-market bonds, as a recent SEC proceeding against the City of Harrisburg, Penn., revealed. 

In settling with Harrisburg under a cease-and-desist order (and no fine), the SEC wrote in its May 6 release: "Unlike many primary offering disclosure documents, statements by public officials that reach the secondary market may not be subject to the same comprehensive review with respect to the disclosure standards of the federal securities laws. Nevertheless, public officials may have liability under the antifraud provisions of the federal securities laws for such statements." The SEC said Harrisburg published statements that failed to disclose, among other material information, a 2009 credit rating downgrade by Moody's. Even so, Moody's had assigned Harrisburg an Aaa rating as late as December of 2008.

One outcome of this case may be to cause municipal officials to provide even less disclosure about secondary market debt, for fear of making statements that omit or misstate material information. It underscores an important advantage of actively managed muni bond funds – namely, internal credit analysis that can uncover deteriorating credit situations in secondary market bonds. Use this story to emphasize why clients should choose muni funds with a "deep bench" of internal credit analysis, capable of digging "beneath the ratings." The SEC's full release is available at www.sec.gov.