Chief Executive Officer, Central Depository Company of Pakistan Limited As I write this article, we see that our domestic capital markets are experiencing a revolutionary era. New standards and milestones are piling on, just as the volume and value of trade at stock exchanges in the country continue to set new records.
Over the past 15 years, the capital markets of Pakistan have witnessed significant development in terms of introduction of high-tech infrastructure, efficient trading mechanisms, proficient processes and comprehensive regulations.
The KSE-100 index has peaked in recent weeks, towering beyond the 21,000 points level. By virtue of this performance, the KSE is today, the top performing market in Asia and among the best performing bourses of the world. Moreover, 14 equity funds from Pakistan made it to the list of the world's 100 top performing equity funds in 2012.
These achievements are harbingers of even greater potential for investments and business growth in the country. With the regulatory support extended by the Securities and Exchange Commission of Pakistan (SECP), the Central Depository Company (CDC) and the National Clearing Company of Pakistan (NCCPL) have played catalyst roles in this drive for domestic capital markets.
Domestic and foreign investors have been facilitated through the establishment of a number of systems for trading, custody and settlement ie the Automated Trading Systems, the Central Depository System (CDS) and the National Clearing and Settlement System (NCSS). Besides, a new Risk Management Structure (RMS) has also been introduced that includes a new netting regime, a margining system based on value at risk (VAR) and capital adequacy.
INFRASTRUCTURE DEVELOPMENT
Central Depository Company of Pakistan Limited In early 1990's, the domestic capital market witnessed phenomenal escalation in trading volumes which resulted in excessive handling of physical securities. The manual handling (physical shares handling and transfer) was becoming time consuming and arduous.
To manage these increasing volumes in a manner that was not only efficient but also time effective, the Central Depository Company of Pakistan Limited was established. The objective was to operate as the central securities depository and to maintain an electronic book entry system.
Under a well-defined legal framework, CDC operates and manages the Central Depository System (CDS) for equity, debt and other financial instruments. The system records, maintains and registers the transfer of securities. It facilitates transfer of ownership of securities without any physical movement or endorsement of certificates or execution of transfer instruments. It also serves to link up the issuers of securities for the purpose of executing corporate actions like disbursement of corporate benefits and carrying out mergers and issuance of rights etc. Similarly, it enables the investors to obtain financing against securities conveniently. With time the company has grown tremendously where it has carved its role in various other services such as Trustee services for mutual funds, Share registrar services and IT services.
National Clearing Company of Pakistan Limited As part of efforts to further improve the settlement mechanism in terms of security and efficiency, National Clearing & Settlement System (NCSS) was established to replace the separate and individual clearing houses of Karachi Stock Exchange, Lahore
Stock Exchange (LSE) and Islamabad Stock Exchange (ISE) with a centralised entity. NCCPL became fully operational in 2003-04 and started catering to settlement of all book-entry securities through NCSS which has brought tremendous efficiency in the settlement mechanism and has reduced settlement risk significantly.
CDC played a significant role in the establishment of NCSS and contributed in the areas of need analysis, application development and database management. CDC managed the operations of NCCPL for three years before handing it over to its independent management and continues to liaise with it for all capital market development initiatives.
Unique Identification Number Unique Identification Number (UIN) system was introduced by National Clearing Company in 2006 to uniquely identify individual investors and institutions with an alpha-numerical code.
This reformation bars passing of any order for sale or purchase of securities without a UIN. The number is assigned to each account holder by the National Clearing and Settlement System (NCSS).
As a result of this initiative, settlement of securities transactions executed on the three stock exchanges in the country is now being performed directly from the respective CDS accounts of investors without manual intervention, thus ensuring complete transparency and straight through- processing in the market.
Straight-Through Processing After the implementation of UIN by NCCPL, Straight- Through-Processing (STP) was made possible in the capital market in December 2010 by CDC in collaboration with NCCPL and three stock exchanges to achieve automation in settlement of securities mechanism.
The newly introduced mechanism has brought increased efficiency and transparency in the securities transfer mechanism where the settlement cycles have reduced from T+3 to T+2 and for negotiated deals to T+0. Under the mechanism, securities are now directly transferred to the target depository custody account based on the UIN of the investors resulting in more transparency and clear audit trail.
MARKET DEVELOPMENT
Bonds Automated Trading System Realizing the importance of debt market for helping businesses and the economy to grow, the KSE introduced Bonds Automated Trading System (BATS) to provide issuers with the convenience of liquidity generation through alternative means of raising debt capital.
Stock Index Futures Contract To deal with the lack of liquidity which has been the biggest challenge for Stock Exchanges in the recent past and for the development of the derivatives segment, Stock Index Futures Contract (SIFC) was launched in 2012. This unique offering provides investors with an opportunity to take composite exposure in top-30 liquid stocks, representing 70 percent of the total market capitalisation. It lets individual as well as institutional investor hedge against market volatility.
Issuance of GDR's, Increase in Market Valuation The last fifteen years have also witnessed the issuance of Global Depository Receipts (GDR) as well as large-scale mergers and acquisitions.
The Oil & Gas Development Company Limited (OGDCL) and MCB Bank have issued successful GDR offerings amounting to $888 million. These GDR's are listed at the London Stock Exchange (FTSE) and have received strong interest from investors.
Similarly, several key take-overs have also taken place in Pakistan's corporate world in the last fifteen years. These include acquisition of Union Bank by Standard Chartered Bank, Citibank Consumer division by Habib Bank Limited, Royal Bank of
Scotland (RBS) by Faysal Bank Limited, PICIC Bank by Temasek Singapore, Crescent Commercial Bank by SAMBA, Pak Tel by China Mobile and acquisition of further stake in Lakson Tobacco by Phillip Morris.
Demutualization of the exchanges To improve governance structure at local exchanges, expand market outreach, attract new investors and improve liquidity which is necessary for technological development and human resource up gradation, the
Stock Exchange Demutualization Bill was unanimously passed by the joint sitting of the Parliament on March 27, 2012. The same was enacted into law by the President of Pakistan on May 7, 2012. Demutualization provides greater balance between the interests of various stakeholders by clear segregation of trading rights and ownership rights. This separation of commercial and regulatory functions has completely transformed the role and identity of the stock exchanges.
As the changes have been devised with the consensus of all stakeholders, they promise greater efficiency, transparency and profitability for the exchanges. A demutualized stock exchange is in a better position to attract international strategic partners and good quality issuers, increasing the visibility of these exchanges on international capital market forums and facilitating consolidation of brokers leading to financially strong entities.
New regime of CGT Implementation
--- The SECP as part of its mandate to develop Capital
--- Market in Pakistan forwarded a proposal to the Federal
--- Board of Revenue (FBR) for revamping of CGT (Capital
--- Gains Tax) Regime to facilitate investors with the ease of calculation and documentation.
A new Capital Gain Tax (CGT) regime is now implemented on all the three stock exchanges of the country and rules for the computation of CGT on listed securities have been revised though the promulgation of Finance (Amendment) Ordinance, 2012 effective from April 24, 2012. The National Clearing Company (NCCPL) is now responsible to compute, determine, collect and deposit CGT to FBR.
Growth in Mutual Funds Industry The mutual funds industry has grown remarkably and has become the most preferred choice of investors as a 'relatively secure investment option'.
Today, these mutual funds have billions of rupees in assets and are not only attracting investors in great numbers but also escalating the settlement volumes, thus benefiting the capital market.
The Federal Government of Pakistan has also taken the initiative for development of private pensions by allowing rebates for investments in approved pension schemes under which investments made in-line with appropriate guidelines issued by SECP are exempted from taxes. Under the voluntary pension scheme, employees as well as employers can make tax-free contribution into the pension funds.
THE WAY FORWARD Cultivating Investor Confidence
Investor protection measures taken by market institutions in the past decade have not been enough to stimulate investor confidence in the capital market. Such measures are required to create a level playing field for even the smallest investors.
To explore the real potential of retail investors and cultivate investor confidence, large-scale and joint efforts are required from all stakeholders. Awareness sessions, information seminars, road shows and trainings need to be conducted on a regular basis to ensure that existing and potential investors become aware of the level of control they have on their investment portfolio.
Informational material needs to be developed and distributed while direct interaction with investors is needed. These efforts should be focused on improving the confidence of potential investors, educating them about investment trends and promoting culture of savings and investment. Action against those who were involved in any fraudulent activities will be the most effective step towards rebuilding investor confidence.
Enhancing Market Depth Creating new and large-volume listings on bourses by privatisation of government owned organisations is the real way towards increasing this depth. Such listings would also attract more individuals to domestic capital market, given the lure of investing into new projects.
For the same purpose, increasing the float by further issuance of government stocks in already listed companies is also needed. A focus of the Pakistani Government on privatisation of state-owned assets in the past has provided some fervor to the investors.
Product Development Introduction of new products catering to the evolving needs of domestic investors is necessary to foster development of capital market and improve investment patterns to create a better investment environment.
New product development is necessary to respond to the new technology and changing market conditions and plays a critical role in ensuring capital market's future growth potential. These products must also be suitable to the local needs.
Conclusion The capital market's current infrastructure and mechanisms provide strong grounds for a speedy recovery of the economic growth and development of the country. But before you enter into the stock market, awareness should be your first line of defence against any loss and fraud. There is no such thing as a foolproof way of investing so ultimately it is the investor's responsibility to keep a stringent check on their securities on a daily basis.
About the Author: Muhammad Hanif Jakhura is the Chief Executive Officer of Central Depository Company of Pakistan Limited. A Chartered Accountant by professional, he is considered among the senior most leaders of the Pakistan Capital Market and has represented the market on several national, regional and international platforms. He has been a strong advocate of investor cultivation, awareness and protection for almost two decades now.