Financial Times

Developing the stock market
The annual report of the Colombo Stock Exchange released recently makes some interesting points about the current state of the share market. It is somewhat critical of the attitude of stock brokers who apparently have not diversified their business to the desired extent to bring about greater activity in the market. Certain market players also seem unable to accept the intervention of regulators in instances of alleged irregularities.

The exchange is rightly proud of the fact that the Colombo bourse remains one of the best performing markets in the world and that it is a source of cheap funds for corporates and brings good returns to investors starved of investment opportunities in a climate where inflation is running ahead of interest rates.

No doubt the brokers themselves have their own criticisms of the CSE such as the lengthy delays in long-announced plans to develop the market. For instance, the CSE has been talking of demutualising the exchange for years. Likewise, it has been talking of introducing new instruments. Now it turns out that legislative changes are required for some of the contemplated changes. The present SEC Act does not permit shareholder owned exchanges while there are restrictions in the Companies Act that prevent companies limited by guarantee and operated on a not-for-profit basis (such as the CSE), being converted into companies limited by shares.

The CSE acknowledges that criticisms have been levelled against the Exchange for not taking the initiative to introduce new products. However, it points out that member firms are allowed to deal in their own account, extend margin lending facilities and trade in the beneficial interest of government securities. The CSE says that market development and regulation should be seen as the different faces of the same coin.

Financial regulation is required to enable the more efficient transfer of resources between companies and investors or borrowers and lenders, and to minimize the asymmetry of information and opportunistic behaviour on the one hand and promote competition and reduce excessive risk-taking by financial intermediaries, reduce systemic risk and thereby ensure that costs are minimized on the other.

The CSE says that there are many instances where it has been misunderstood by various stakeholders and it makes an effort to clarify some of these issues.
One is the recent development where share prices of certain listed companies increased substantially in a relatively short period of time for no identifiable reason, prompting the CSE to call for explanations.

The CSE refers to concerns of certain stakeholders who have alleged that the CSE, by calling for information from companies and disseminating the same to the market, could destroy investor sentiment. The CSE points out that while a certain amount of speculation is important to create liquidity, from a policy perspective a stock exchange cannot encourage speculation. There have been many instances where speculative bubbles have destroyed markets with dire consequences being unleashed on investors. “Such a happening in an emerging market such as ours would destroy the market development initiatives that have been undertaken by all concerned.” This is something this newspaper itself has commented upon in the past when we called for stern action against those who are manipulating the share market.

Furthermore, it appears that brokers are reluctant to diversify and are stuck with a strategy based purely on price. The CSE is trying to nudge stockbrokers into becoming investment bankers and engaging in an array of capital market related activities rather than only providing agency broking services.
It would indeed be ironic if those who are at the heart of a market-based economy for which competition is fundamental are seen trying to avoid competition.

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