Muhammad, appointed Chairman of the SECP in December 2010, has an extensive and diversified corporate and financial markets experience spread over 20 years. An MBA from the Institute of Business Administration (IBA), Ali started his career with Citibank and moved on to Smith New Court Securities in London.
In 1994, Ali finalised a joint venture with Indosuez W.I. Carr Securities (Asian brokerage arm of Credit Agricole Indosuez) and led Indosuez W. I. Carr Securities, Pakistan for six years. He also served as Country Manager for Elixir Securities Pakistan (Pvt) Ltd for over two years. Mr Ali has served as a Director on the Boards of reputable companies like Engro Corporation Limited, Karachi Stock Exchange (Guarantee) Limited, Dawood Bank limited amongst others.
In his first major interview to any publication since he took office, Mohammad Ali talks about the rationalisation of taxation to encourage corporatisation in the country, improving the performance and function of capital markets, demutualisation of stock exchanges and SECP's role in the Planning Commission's new growth strategy. Below are edited transcripts.
BR Research: SECP virtually remained orphaned without a leader for a year or two until you took over. Any comments? Mohammad Ali Ghulam: We still have only two commissioners. But a commissioner's appointment is not our decision; it is the government's decision. Since taking charge I am in close contact with the government and I am hoping that soon we will have three more commissioners.
BRR: How can we develop Pakistan's capital market? MAG: The overall regulatory and taxation structure in the country doesn't offer much motivation for a businessman to go for listing for a few reasons.
Firstly, for a partnership concern, the tax rate is low. Secondly, there is no regulator, meaning there are no audit requirements and no accountability to show the right profits. So a lot of businessmen opt for partnership concerns. Thirdly, though a public listed company has the advantage of the ability to raise more capital through equity, and transparency, as a nation we want to control things as much as possible and businessmen desire to have a higher percentage stake or higher percentage ownership.
So in order to motivate them to come to the market, we need to re-look at the tax structure; partnership concerns should be taxed at the highest rate, followed by private limited and then public listed. Once the nation is corporatised, five to fifteen years later we can re-look the tax-structure. But the need of the hour is to bring more people in the tax-net.
BRR: Is there any SECP provision for increasing companies' float for the development of the secondary market? MAG: The issue is not just limited to float. The capital market needs three ingredients to function well. One, a good quality issuer; second, a widespread investor base; and third, liquidity. When the market was reopened after the 2008 crisis, the focus was liquidity. But what about attracting issuers? If any of the three is missing, the capital market cannot function well. To be honest, all three are missing at present.
BRR: What do you have to say about MTS?
MAG: Liquidity and turnover is provided by a short-term player because then market volumes increase, giving easy entry and exit to investors. Pakistani markets in 2005 and 2006 were one of the most liquid in the whole of Asia. So we need to get both short-term and long-term investors.
For short-term investors you need leverage products. That is where MTS comes into play. MTS is there but it has no liquidity.
BRR: What about manipulative practices in the stock market? MAG: In Pakistan, there has been no cornering of stocks for the past 10 years. This happened in some stocks in the mid or late nineties. After that, there were some changes in the rule for example, short-selling was not allowed, but there was no cornering. The market was overheated and the 'badla' mechanism allowed financers to take money out overnight and the investors panicked and sold the shares.
Cornering stocks and manipulating prices is not very easy now because there are now lending and borrowing rules in short-selling and all is reported. Previously, big brokers could manipulate the market through their own companies. However, the big-brokers have not remained big anymore after 2008.
BRR: What about other means of financing?
MAG: In our country, the only strong financial institutions that we have developed are the banks. But, we have not been able to develop mid-sized financial institutions which are the non-banking financial institutions that lend to capital markets.
Commercial banks' business is to lend to the corporate sector and to the government. They are not geared to be investment bankers or capital market players; they have stringent requirements because they are dealing with public money.
So countries have developed other kinds of financial institutions. Unfortunately, we don't have such financial institutions.
BRR: Why hasn't MTS kicked off in the local market?
MAG: The missing link is the lack of financiers. We need to allow individuals to come in and finance. Then, hopefully, liquidity will come in the market, which is what capital markets need now. The short-term solution is to get liquidity in the market, which we are trying to get through the MTS. The long-term solution is to develop the mid-sized financial institutions.
BRR: What sort of mid-sized institutions?
MAG: Leasing companies and investment banks, for instance. These institutions will contribute not only to capital markets but to the economy by helping finance mid-sized enterprises and SMEs.
Right now, only people with money prosper but human capital goes unrewarded. We call America the land of opportunity because over there you don't need to have money to lend someone; you need to have the brains. There is no venture capital investor for financing brilliant business ideas here.
BRR: What else will be required?
MAG: We also need quality issuers. The taxation structure has to be amended to incentivise people to come to capital markets. We have also talked to the stock exchanges to re-look at their fee-structure. If the fee-structure is changed at the stock exchange level, companies will be more motivated to come.
BRR: What is the perception of equity markets?
MAG: The perception is positive and people don't want to keep their money in banks because they offer low return. They can make more money in the capital market and when the money multiplies, there is no tax on that.
But besides perception issues, investor base has also shrunk because people have also lost money in capital markets like in 2005, 2006 and 2008. Globally people do lose money in capital markets, but the difference is that the investor base is only about two thousand people in a country of 180 million people. Large brokers are not large anymore and have either diversified into industries or are not in capital markets anymore. So there is a vacuum.
BRR: Have we done something to fill that vacuum?
MAG: Frankly, nothing. There is no second generation of investors. The long-term solution is that we need to create awareness about the capital market. The regulatory body, the stock exchanges, the brokers and the mutual funds need to work very hard for the next 10 years educating people, coming up with products, marketing them, distributing them etc.
We need to attract the common man to the market. For that, the interest rate has to be brought down. In an economy where the growth rate is three-four percent, and interest rate is 13-14 percent, a common man will keep the money in the bank, or in the government savings instruments and not in equities.
It will take time for the growth rate to go up, so interest rates have to be reduced. That will give a big boost to capital markets.
Overall, that vacuum can be filled in the short-term by giving some liquidity to the market but in the long-term by spreading the investor base throughout the country.
BRR: What about human resource in brokerage houses?
MAG: Most brokers are losing money today and can't afford to hire expensive resources. The quality of staff has deteriorated a lot. We need to educate our brokers, our research analysts, our fund managers and have a certification programme. We have established an Institute of Capital Markets and are trying to certify people.
There was no certification here until a few years ago. When the market picks up we will work with the brokers in spreading their network and opening branches. But it's not the time yet.
BRR: What else can be done to enhance the investor base?
MAG: I think, in order to have a wide spread investor base, mutual funds is the answer. A lot of mutual funds are owned by the banks. And if those banks assign 20 branches to market mutual funds, that will do the job. The brokers industry, however, has to come back on its feet and this will take a while.
BRR: Do you think there is a case of collaboration between the Lahore, Karachi and Islamabad stock exchanges?
MAG: So far, I have not received any request from Lahore or Islamabad. We are very open to any suggestions. Globally, you will see one major exchange in every country.
Frankly, after demutualisation, people will need their trading rights so anyone sitting anywhere in the country can get a trading right for any of the exchangers. There will be competition between the exchanges and I think that will be good for the country.
BRR: What are the benefits of demutualisation?
MAG: Firstly, the entry price in the stock exchange is currently very high for becoming a member. Once it is demutualised, we won't need that.
Secondly, trading rights and settlement rights will be split so you don't have to offer all the products and services. Right now a stock exchange member has to sell, get the order, execute and settle it also, for which they need a lot of financial capital. After demutualization, brokers who are not financially strong can just get the business and execute it, and their business will be settled by someone else. So there will be a splitting of trading rights and settlement rights.
Thirdly, anyone with small amount of money can be in stock exchange, be it a distributor or broker. So there will be more brokers selling capital market products.
Fourthly, the management will become more independent of its member community because the members will not be members but will be shareholders. So governance will get better.
Lastly, once demutualised, a certain person's stake will be sold as part of the plan to an international exchange, bringing that expertise too.
BRR: What about pricing?
MAG: Without volumes and earnings, we cannot get the right price. But as long as we can get the act approved, we don't have to sell the stakes overnight.
Secondly, we don't need to sell a large chunk. The idea is to go up on volumes, revenues, on reviving the capital market and then sell the stakes. Hopefully, in the next year or so, the act will be approved and capital markets will be revived.
BRR: What are some potential areas for developing financial markets?
MAG: There are two major focus areas. One is debt capital market, where the corporate and government can borrow directly. In the absence of this market, the borrowing cost will be very high.
The second focus area is commodities. We need a national commodity market in order to have price discovery. The commodity market is looking for more capital because its losses have been minimised and volume has increased considerably.
Last April, the total commodity exchange turnover was more than the stock exchange turnover, and there is more potential.
BRR: What is your view on NSS?
MAG: NSS is the government's debt requirement so that will stay. Lowering the interest rates will help, but the government, in future, should borrow through capital markets, and decrease NSS once that has been established.
BRR: What's your view on the restructuring of the legal department?
MAG: A legal department has three responsibilities: litigation, advisory - which is of two types; day-to-day and strategic advisory - and law-making. We have transferred part of the responsibility to the department and we have kept part of the responsibility in a centralised way.
We want to focus on legislation. Our law department was doing a lot and it was very ineffective.
BRR: What about SECP's role in the insurance sector?
MAG: Currently, ADB has given us consultancy and funding on micro-insurance. Internally we are developing tremendous expertise and knowledge-base in the insurance division: policy and supervision. In the absence of the regulators, SECP does have that knowledge of regulating the sector.
BRR: How would you sum up SECP's role in the New Growth Framework?
MAG: In terms of new growth, we are trying to develop the capital market by trying to channelize investors' money into businesses. We are trying to develop the commodity exchange, the debt capital market, mutual funds and insurance companies, and are trying to make ourselves more business-friendly as far as the corporate sector is concerned. All this will contribute to growth.
However, we can only do our role. For there to be growth, other organisations within the country have to do their role also.
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