Watchdog Dropping Disclosure in Favor of Paternalism

The Israel Securities Authority seems to have woken from its gauzy fantasy of relying on companies to provide proper disclosure. It is considering new, rather paternalistic, regulation to govern corporate bond offerings in order to spare investors from debt that shouldn't have been offered in the first place.

The new rules aim to ensure that the bond market meets at least minimal conditions of a credit market. As things are, practically any company can peddle its debt to investors, which has caused heavy losses to the unwary or unwise.

Among other steps, the Authority may ban companies devoid of shareholders equity from issuing debt, says chairman Zohar Goshen.

Another requirement may be for issuers to give investors the right of early redemption if the companies' repayment ability is impaired. The banks - which were the only source of credit until Israel's corporate bonds market developed - certainly lock in the right to recall loans if a company's business starts to go sour. Bondholders should have a similar right, the Authority chiefs feel.

Issuing companies may also have to meet certain conditions of corporate governance.

While the Authority is far from finalizing the reform, it will probably not address collateral and financial covenants. Those should be left for institutional investors to address in their own rules as they see fit, says Goshen. Institutional investors and their rules are supervised by the Finance Ministry, he adds.

Until now, the Israel Securities Authority had relied on proper disclosure: Make sure the information is out there and let investors make their own decisions, and mistakes. But the financial crisis exposed glaring flaws in that principle, one problem being investors' failure to understand perfectly transparent but horribly complicated financial instruments. Sometimes investors failed to understand simpler financial instruments too.

Hence the paternalistic approach: Spare investors from instruments that should never have reached the market.