Investors' Risk in Stock Markets
Kiani, Khaleeq, Economic Review
Not with standing the rising share index, two major developments in the capital market over the last few weeks have raised many eyebrows.
The two measures--one introduced by the Karachi Stock Exchange and the other by the Securities and Exchange Commission of Pakistan--indicate that the regulators have learnt no lesson from market crashes of 2005 and 2008 that deprived thousands of investors of more than Rs.800 billion of their hard earned money.
First, the KSE has introduced leverage products on terms that were responsible for the previous market crashes. It says that 'a member on his proprietary or clients' accounts on Unique Identification Number (UIN) basis shall be allowed to make blank sale up to 0.5 percent of the free float of a scrip or Rs.50 million, whichever is higher, in deliverable futures contract market, subject to maximum of three percent of the free float or a scrip blank sold by such member for his all accounts including proprietary and clients', in accumulation at any given time during a contract period'. This is dangerous, to say the least.
Second, the SECP has asked brokers to take blanket authority from their clients to pledge clients' shares as part of account opening form. This was described as an offence in the previous market crashes punishable for imprisonment and fine because brokers had pledged investors' shares without their knowledge. It was one of the reasons for the default of many brokers and losses to the shareholders.
Even if the authorization is well intended, its ambiguously worded language is vulnerable to abuses by brokers. This language makes a striking departure from the language of Section 12 (1) of CDC Act that provides for the mode in which brokers can pledge their clients' shares. This provision does not envisage one time authorization as part of account opening form.
Leverage products are normal in the capital markets. Section 16 of Securities and Exchange Ordinance 1969 covers leverage products. However, when the regulators became silent spectators, brokers abused these leverage products and played havoc with public money. Those who lost investments worth over Rs.800 billion in 2005 and 2008 market crashes are still running from pillar to post to be compensated. Last week, a number of such small investors wrote to the policy board for compensation out of investors' protection fund and through sale of assets of defaulter brokers. If there was no positive response, they said, they would approach the Supreme Court for justice.
Market participants like the KSE, the Central Depository Company, brokerage houses and chartered accountant firms all contributed to the market crash of 2008 and incurred criminal and civil liabilities in the process. But the SECP avoided enforcing these liabilities to the disadvantage and disappointment affected investors and to the detriment of a healthy capital market. Originally, it introduced futures contracts--a leverage product--but disallowed speculation. Now, it has approved amendments in the KSE regulations allowing speculations in the futures market, The next step would be margin financing.
Investors complained that the SECP held a number of brokers responsible for the debacle and market manipulation, but applied irrelevant clauses of laws on the premise that brokers did not know about the law. …