Private Placements: Retail Broker-Dealers Shape Terms of Placements to Sell More of Them

Monday, January 5, 2015

A recent Reuters special report shines light on an "increasingly common" practice among broker-dealers of changing -- and shaping -- the terms of private placements they sell.  The report highlights several points:
  • Broker-dealers have an incentive to sell private placements because they generate higher commissions as compared, for example, to even the most expensive mutual funds.  Investors are drawn to private placements because of the promise of higher returns without necessarily appreciating the substantial additional risk involved in private placements.
  • Private placements are relatively lightly regulated -- disclosures are often less robust and less comprehensive.
  • Brokers are working with issuers of private placements to "change the structure" of the deals to sell more private placements.  This is not illegal and may provide useful feedback to the issuer looking to understand what investors want.  
  • A material change in the terms of private placements may impact the risk profile of the investment, such as, for example a change in interest rates or shortening the term of the investment. 
The involvement of brokers in shaping the terms of the investment raises questions about conflicts of interest (who is looking out for whom) and concerns about the independence and objectivity of the broker's due diligence process in vetting the private placement before offering securities to investors. 

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