2216. Communications with the Public About Collateralized Mortgage Obligations (CMOs)
For purposes of this Rule, the term "collateralized mortgage obligation" (CMO) refers to a multi-class debt instrument backed by a pool of mortgage pass-through securities or mortgage loans, including real estate mortgage investment conduits (REMICs) as defined in the Tax Reform Act of 1986.
(b) Disclosure Standards and Required Educational Material
(1) Disclosure Standards
All retail communications and correspondence concerning CMOs:
(A) must include within the name of the product the term "Collateralized Mortgage Obligation";
(B) may not compare CMOs to any other investment vehicle, including a bank certificate of deposit;
(C) must disclose, as applicable, that a government agency backing applies only to the face value of the CMO and not to any premium paid; and
(D) must disclose that a CMO's yield and average life will fluctuate depending on the actual rate at which mortgage holders prepay the mortgages underlying the CMO and changes in current interest rates.
(2) Required Educational Material
Before the sale of a CMO to any person other than an institutional investor, as defined in Rule 2210(a)(4), a member must offer to the person educational material that includes the following:
(A) a discussion of:
(i) characteristics and risks of CMOs including credit quality, prepayment rates and average lives, interest rates (including their effect on value and prepayment rates), tax considerations, minimum investments, transaction costs and liquidity;
(ii) the structure of a CMO, including the various types of tranches that may be issued and the rights and risks pertaining to each (including the fact that two CMOs with the same underlying collateral may be prepaid at different rates and may have different price volatility); and
(iii) the relationship between mortgage loans and mortgage securities;
(B) questions an investor should ask before investing; and
(C) a glossary of terms.
(c) Promotion of Specific CMOs
In addition to the standards set forth above, retail communications and correspondence that promote a specific security or contain yield information must conform to the standards set forth below. An example of a compliant communication appears at the end of this Rule.
(1) The retail communication or correspondence must present the following disclosure sections with equal prominence. The information in Sections 1 and 2 must be included. The information in Section 3 is optional; therefore, the member may elect to include any, all or none of this information. The information in Section 4 may be tailored to the member's preferred signature.
Section 1 Title — Collateralized Mortgage Obligations
Anticipated Yield/Average Life
Specific Tranche — Number & Class
Final Maturity Date
Section 2 Disclosure Statement:
"The yield and average life shown above consider prepayment assumptions that may or may not be met. Changes in payments may significantly affect yield and average life. Please contact your representative for information on CMOs and how they react to different market conditions."
Section 3 Product Features (Optional):
Income Payment Structure
Generic Description of Tranche (e.g., PAC, Companion)
Yield to Maturity of CMOs Offered at Par
Section 4 Company Information:
(2) Additional Conditions
The following conditions must also be met:
(A) All figures in Section 1 must be in equal type size.
(B) The disclosure language in Section 2 may not be altered and must be given equal prominence with the information in Section 1.
(C) The prepayment assumption used to determine the yield and average life must either be obtained from a nationally recognized service or the member must be able to justify the assumption used. A copy of either the service's listing for the CMO or the member's justification must be attached to the copy of the communication that is maintained in the member's advertising files in order to verify that the prepayment scenario is reasonable.
(D) Any sales charge that the member intends to impose must be reflected in the anticipated yield.
(E) The communication must include language stating that the security is "offered subject to prior sale and price change." This language may be included in any one of the four sections.
(F) If the security is an accrual bond that does not currently distribute principal and interest payments, then Section 1 must include this information.
(3) Radio/Television Advertisements
(A) The following oral disclaimer must precede any radio or television advertisement in lieu of the Title information set forth in Section 1:
"The following is an advertisement for Collateralized Mortgage Obligations. Contact your representative for information on CMOs and how they react to different market conditions."
(B) Radio or television advertisements must contain the following oral disclosure statement in lieu of the legend set forth in Section 2:
"The yield and average life reflect prepayment assumptions that may or may not be met. Changes in payments may significantly affect yield and average life."
(4) Standardized CMO Communication Example
Collateralized Mortgage Obligations
7.75% Anticipated Yield to 22-Year Average Life
FNMA 9532X, Final Maturity March 2023
Collateral 100% FNMA 7.50%
The yield and average life shown above reflect prepayment assumptions that may or may not be met. Changes in payments may significantly affect yield and average life. Please contact your representative for information on CMOs and how they react to different market conditions.
Income Paid Monthly
Implied Rating/Volatility Rating
Principal and Interest Payments Backed by FNMA
Offered subject to prior sale and price change.
Call Mary Representative at (800)555-1234
Your Company Securities, Inc., Member SIPC
123 Main Street
Anytown, State 12121
Amended by SR-FINRA-2011-035 eff. Feb. 4, 2013.
Adopted by SR-NASD-2000-12 eff. Nov. 3, 2003.
Selected Notice: 12-29.