Tuesday, October 9, 2012

Systemic risk heightened as SEC relaxes credit rule

*SEC lifts upper limit for crossings, Nirvana for pump-and-dumpers warn analysts

*Restriction on broker transactions lifted, good for monitoring

The Securities and Exchange Commission yesterday (08) decided to relax broker credit restrictions but some brokers are concerned about the new move, especially with regard to credit as it increases systemic risk.

Releasing a statement SEC Acting Director General Prof. Hareendra Dissabandara said the commission having met yesterday decided to "amend the Net Capital computation in order to relax the credit granted by stock brokering companies to their clients. In that the stock brokers are now permitted to extend credit to their clients three times the adjusted Net Capital (i.e. Net Capital minus 50 percent of fixed assets) without having to deduct outstanding debtors from net capital. However, the stock brokers are required to compute the Net Capital adjusting all unsettled purchase transactions (T+3) to reflect the excess of cost over market value. Further stock brokers are required to ensure strict compliance with all rules and regulations applicable to the extension of credit".

Commenting on this new ruling, market analysts pointed out that in 2010 the SEC made a decision in the interest of reducing counterparty risk to ring fence the lending activities of a broker from its transactional functions. This was subsequently modified due to pressure from various quarters in permitting brokers to give short term credit – less than 30 days and any credit extended for longer periods necessitate a haircut on the amount outstanding with a 100% haircut in 120 days.

"The current ruling does away with all safeguards, in other words brokers are now permitted to give credit for any period of time. This further heightens systemic risk and does not bode well for improving investor confidence," one analyst said not wanting to be named.

The SEC will also "lift the upper limit of 20 percent imposed on the price of transactions carried out on the crossings board of the Colombo Stock Exchange and re-establish the status quo that existed previously in the automated trading rules".

"This is nirwana to pump and dumpers – it is a quite literally a license to fleece for pump and dumpers. A market price is a reflection of the price discovery process albeit sometimes it is weak thus the former rule provides a 20% range. One fails to reconcile why one would want to rescind this, what is the motive?" a market analyst asked.

The SEC will also "lift the restriction imposed on executive directors, employees, their spouses and their nominees of all licensed stock brokers and stock dealers from selling listed shares purchased from the secondary market for a period of six months from the date of purchase".

According to market analysts the former rule was a knee jerk reaction emanating from the NSB fiasco.

Banning something outright will simply incentivize someone to use a nominee to trade thus rescinding this rule is a move in the right direction for it puts an onus on the internal compliance of a firm to monitor their staff trades, therefore this change is a welcome move, analysts said.

"Generally a directive issued by a regulator it directed to the regulatee, in this case it should be to the Colombo Stock Exchange to be taken up through its rule making process and should include a detailed analysis of the thought process that went into establishing it, in this case the commissions’ actions are being disseminated via a press announcement, there is no explanation as to the thought process and the directive is with immediate effect – this is highly unusual," a broker pointed out.

source - www.island.lk

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