"Co-ordinated steps are urgently needed to significantly expand the current investor base in the country" said managing director, Lahore Stock Exchange (LSE) Aftab Ahmad Chaudhry. Flanked by LSE directors Ammar-ul-Haq and Jahanzeb Mirza, Chaudhry spoke exclusively with BR Research, about impediments to the growth of capital markets in the country.
"Unfortunately, in 64 years we have only developed an investor base of just 250,000 people. We have not managed to reasonably expand this market", he pointed out and added that the blame for this slow growth must lie with regulators, brokers, companies and the government. Criticizing the government's apathy towards promoting the private sector, he highlighted that the government is the biggest borrower from commercial banks, by far; crowding out private borrowers.
"The problem is that when the government is so willing and eager to borrow from the banks, efficiency of debt markets is compromised", said Ahmad, adding that "until the listing and trading of bonds do not commence, the private debt market will not develop nor will there be a credible yield curve for benchmarking".
The representatives of brokers were especially critical of capital gains tax on equities, terming it "an unfair measure". "When the whole economy is undocumented; even the banks do not ask for such information from depositors, then why is there an obsession with the source of funds in the capital markets" Chaudhry questioned.
"The government clearly has no interest in developing the equity markets or for facilitating the growth of the private sector" said Ahmad. "No forms are available and the draft amendments have not been finalized by FBR yet. 30 September is the last day for the submission of CGT and no forms are available as yet. Even the recent amendments to the tax have not been finalized by FBR. Moreover, data entry in these forms is simply impossible", according to Ahmad.
Beware: The taxman cometh
MD LSE explained that investors are deterred from investing in equities because of disclosure requirements that are not applicable on other investment avenues such as commodities or real estate. "There must be a level-playing field among different avenues of investments", he reiterated.
Other participants chime in, adding that tax authorities routinely harass individuals who file comprehensive tax returns and comply with all regulations.
The members assert that the taxman has introduced a "fear element" into the market through stringent conditions of disclosure. It would have been better to use UAN numbers linked to each individuals account and simply collect the tax at source without obsessing.
They argue that the economy is in a developing state and the capital markets are still in a nascent stage. So the policymakers must facilitate companies to encourage listings, especially among medium-sized firms.
Aftab Ahmad said the stock exchanges are in talks with various privately-held companies to coax new listings but lamented that current economic situation and growing uncertainty on the political front make this an uphill task.
However, he conceded that brokers also have to improve corporate governance in their businesses. "Even if regulations are not enforced, brokers just like banks and other financial institutions have the responsibility of knowing their own clients", conceded Ahmad while adding that "as intermediaries we should not be held legally responsible for the conduct of investors".
Once bitten, twice shy
Speaking candidly, Aftab Ahmad conceded that certain brokerage firms and their affiliates engaged in fraudulent practices that eroded investors' confidence in equity trade. "Those who have suffered because of such unscrupulous individuals and companies are deterred from investing in local equities, in some cases on a permanent basis", he said.
But the representatives of LSE also drew attention to dodgy practices of certain firms, contending that "chartered accountants have never been flagged for signing off on companies that have been found to be misreporting their financial performance".
But Aftab Ahmad asserted that there are other factors behind the limited popularity of investing in equities among Pakistanis. "We are not developing a culture of savings and are obsessed with consumerism" said the LSE MD. He drew attention to throngs of customers outside posh restaurants and fast food chains.
Contending that "most people have not been open to cash settled futures while they are willing to assume relatively more risk by using 'badla' financing", Ahmad insisted that all stakeholders including the exchanges, SECP, NCCPL and brokerage firms must work towards increasing the level of awareness regarding investing and trading in equities.
"Approaching investors in other cities of the country (besides Karachi, Lahore and Islamabad) requires an understanding of the business cycles and sub-cultures of different areas of the country", he said. The managing director explained that prospective investors in cities like Multan and Bahawalpur are likely to have a chunk of their annual disposable incomes in the weeks following cotton harvest and "that is the time to approach them with opportunities in the equity markets".
"We have attempted to establish our presence in smaller cities and create awareness among prospective investors but there is a severe dearth of capable and trust worthy individuals who are needed to oversee such establishments", contended Ahmad.
Aftab Ahmad drew attention to "financial literacy calendar" from Syria and other such tools for raising investor awareness from other countries. He asserted that the stock exchanges are working towards sustainable awareness creation strategies. "In a country with such a huge population, the number of investors should be much higher. If we do not tap the huge pools of prospective investors in cities and towns across the country, this is a dead market", he said.
Listing problems
Drawing attention to recent initial public offerings at local bourses, Aftab Ahmad said, "These IPOs were under subscribed, despite the apparently healthy performances of these companies. This shows you the level of liquidity constraints that the local markets are facing".
Citing stagnating growth and a lack of job creation, he charged SBP with the task of realigning its vision to focus on economic growth instead of combating inflation which is resulting predominantly due to external factors.
"The corporate sector is paying higher taxes than all other businesses in the country. This is in addition to the spiralling cost of utilities. No wonder local industrialists are considering moving their factories to other countries", he remarked.
Corporations are facing a tax rate of 35 percent besides workers compensation fund payments and other obligations while a firm operating as a partnership faces an effective tax rate of 25 percent, argued the representatives of LSE. They also argued that this differential discourages companies from implementing enhanced disclosure requirements that public listing entails.
While acknowledging recent improvements on the economic front such as lower rates of inflation and a strong current account balance; the managing director of LSE insisted that extensive economic reforms are direly needed but the government has shown more apathy than actions on this front.
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