The securities market being an integral part of the Capital market is known as a market for long-term funds. It facilitates an efficient transfer of resources from savers to investors and becomes conduits for channelling investment funds from investors to borrowers.
The basic need of the securities market is to meet at least two basic requirements viz. (i) it should support industrialisation through savings mobilisation, investment fund allocation and maturity transformation and (ii) it should be safe and efficient in discharging the aforesaid function. It has two segments, namely, securities segments and non-securities segments.
SECURITIES SEGMENTS The securities segment is concerned with the process a firm distributes its securities to the public in the primary market and the securities are then traded in the secondary markets commonly known as stock exchanges. Financial intermediaries, such as investment banks, asset management companies, underwriters, broker-members etc are involved in the process. Securities segments of capital market have two important roles to play ie, information production and monitoring.
The prospective allocative role of stock price arises because the markets have information that manager does not have. Current stock prices are indicative of the potential investment decision making to profitable industrial sectors to which resources must be allocated. If the stock price goes down manager is less likely to invest while he/she is more likely to invest if the price goes up. It shows how stock prices influence the equity fund allocation decisions.
Non-securities Segments are those markets in which loan / equity loan are provided by the banks, financial institutions and DFIs. The financing of economic development warrants two basic issues: first, how best to provide external finance for the business sector, the engine of growth and second, how to monitor the behaviour and performance of corporate borrowers under an effective system of corporate governance.
Internally generated funds are essential for sustainable growth but are inadequate, especially when firms and economies are rapidly expanding. A fundamental choice then is between a stock-market-based system and a bank-based-system of external finance. Of course, the choice of the system is crucial in evolving a financial system and developing appropriate incentives and institutions.
An active and vibrant securities market, which offers positive real returns on a variety of financial instruments, provides an alternative investment opportunity selecting the best portfolio through diversification of risk according to investors' preferences. The banking sector can react to match this by offering alternative investment opportunities. Nevertheless, the securities market might have an edge over the banking sector in that securities provide relatively liquid means of sharing risks and its holder can liquidate the holdings at any time. This paper will provide thrust on securities segment of capital market.
IMPORTANCE AND RELEVANCE OF SECURITIES MARKET IN PAKISTAN Analyzing the equity market in Pakistan appears to be relevant in view of on-going structural adjustment, financial liberalisation and economic deregulation policy adopted by the government of Pakistan in the last two decades. These reforms aim at macro economic stabilisation in a free market economy, where stock market reform and development can play a vital role. In order to support the stock market activity towards growing liberal policy for investment and as a vehicle for effective privatisation, understanding prevailing stock price behaviour, and the requirements of making securities market effective ones in terms of liquidity and competitiveness is a must.
Despite the eccentricity of each emerging market, it is possible to offer a broad description of several phases common to all equity markets. These emerging markets including the Pakistan, are found to have gone through different phases of development associated with the stages of economic development process and political stability of a particular country.
In the initial phase, equity prices tend to rise. With the implementing process, growth-oriented policies and attainment of some degree of economic and political stability, the market starts to gain the confidence of domestic investors and become more widely accepted as an investment alternative to bank deposits and often to short-term government bonds.
The second phase relates to the deregulation of capital markets for easy access by the international investors and for cheaper capital funding by the domestic investors since the equity markets have gained some degree of credibility at this phase. As market liquidity increases and risk-adjusted returns rise, international investors begin to reap the diversification benefits if investing in these markets. The stock market of Pakistan have passed through this phase like other emerging markets.
The third phase is concerned with expansion. The markets offer prospect of higher return with less volatility and the investors easily absorb new issues of stocks and corporate bonds. These lead to increased trading activity, more effective intermediation, while the growing need for a risk transfer mechanism spurs the development of equity- and currency-risk hedging instruments such as derivatives and index products.
Finally, the market depicts the phase of maturity. As equity risk premium falls to internationally competitive levels relative to government treasury bill rates or equivalent short-term money market rates, the equity market begins to achieve the stable growth that marks a nature of developed state. Studies have mentioned three reasons for the lack of confidence on the part of individual investors in securities of emerging markets.
First, there is a dearth of appropriate financial and other relevant information about the domestic security market in general and listed securities in particular. Secondly, there is the inadequacy of the accounting and auditing of financial reports. Third, there is the inability of the regulatory authorities to effectively monitor and supervise the market and thereby protect investors against market manipulation and other market abuses.
DYNAMICS OF STOCKS Tracking economic environment for investors, fundamental analysis relies on long-term forecasts of the economy, the industry and the company's financial prospects to determine the fair value of the firm and thereby to select the stock for investment. This process is called the top-down approach since it goes from the macroeconomic environment viewpoint to the individual company.
PROBLEMS OF PAKISTAN'S STOCK MARKET - ITS DIAGNOSIS AND CAUSES Securities markets in Pakistan encounter problems both from supply side issues and demand side issues. The status and development of Pakistani stock market has to be examined as to when to diagnose the problems and perceive their causes.
The most common developmental and institutional obstacles of emerging stock markets including the Pakistani stock market are small capitalisation in relation to GDP, limited liquidity in the market, and an outdated and inefficient regulatory framework. The natural consequences of such a situation are higher return required by the investors caused by higher uncertainty, higher transaction costs and fees etc.
In addition, the usual problems associated with relatively thin market remains with the fact that prices are unduly influenced by the activities of a small number of dominant participants. Size and liquidity of the company provide some distinguishing features of developing markets. The market capitalisation ratio, defined as the value of listed stocks divided by GDP, is used as a measure of stock market size.
It has got economic significance because the market size is positively correlated with the ability to mobilise capital and diversify risk. Pakistani stock markets have grown significantly during the last decade particularly in the era when there was monarchy in our country. Still, the size of the market is relatively small compared to other Asian markets. In Pakistan, this ratio is in range of 8-9% of the GDP whereas in some emerging markets this ratio even crosses 50% which reveals that the role of Pakistan's securities market in the economy is quite below from potential.
Low liquidity level in the emerging markets is termed thinness of trading of securities across the board. It becomes worse during a bear market condition than a bull market condition. Many emerging markets suffer from very serious thinness of trading. If the market for a security is thin, any attempt at selling a relatively large quantity will cause a large decrease in price, ie an erosion of capital value, hence contributing to illiquidity.
It is observed that trading on some stocks takes place occasionally or even at some longer intervals. High turnover is often considered to be indicative of low transaction costs. A small but active market will have small capitalisation but high turnover ratio. Liquidity represented by the turnover ratio, measured as the value of total shares traded divided by market capitalisation, was less than 50% in Pakistan which is in the range of 90% in neighbouring country.
The contribution of the equity markets to financial development represented by the ratio of new issues to gross investment as well as national saving has not been significant (less than one per cent) Many of the constraints associated with equity markets are concerned with the overall development of the country and hence investment in equities is likely to continue to be some highly risky affairs for a great many potential investors with pronounced risk aversion attitudes.
On the other hand, mechanisms that are designed to force industrial corporation to resort to the new issue market are of questionable effectiveness in view of relative difficulties to implement them. Under these circumstances, securities market of Pakistan are likely to be restrained, despite enthusiastic efforts for its rapid development.
The other striking features of Pakistan's stock markets are laid down as follows:
--- Lack of infrastructure and physical facilities
--- Existence of only dealer-broker-members (no specialist/ market maker)
--- Market dominated largely by unsophisticated Investors
--- Lack of diversity in products' availability in market
--- Inefficient capital market- operational and informational
--- Lack of proper and adequate disclosures
--- Lack of enforcement with the compliance of rules and regulations
--- Corporate governance - sponsor-owners are managing the firm. All most all cases, no professional management are hired to run the affairs of the listed company.
--- Share Market Debacles The worst stock market crashes in recent years particularly happened in 2005, 2006 and 2008 in the history of Pakistani stock markets mainly resulting as disastrous bubbles caused by unchecked investors euphoria and an absence of attention to the relation between stock price and economic and/or company fundamentals have evaporated the retail investors from our markets. In these testing times, the regulatory bodies concerned must react in time with effective measures against undesirable developments.
The stock market crash in 2008 has shaken the confidence of the investors. There is no denying the fact that the crux of the stock market problems now is the chronic lack of investors' confidence in the system. A very small proportion of market capitalisation to the GDP, extremely small shares of the population with a negligible proportion of equities in the total financial assets suggests its vulnerable condition. Lack of liquidity and variety of trading instruments is and continued to be an important deterrent for diversification of portfolio. Role of institutional investors and financial intermediaries like investment banks, commercial banks, insurance companies and NIT has been remarkably insignificant in revitalising the securities market.