Wednesday, November 21, 2012

CB on broker credit limits: Necessary in 2011, cause of market slump this year

The Central Bank says the slump affecting the Colombo Stock Exchange this year was caused by investor sentiments impacted by rising interest rates, limits imposed on broker credit and the lack of market liquidity. Last year the bourse fell 8.6 percent and the Central Bank said it was due to a market correction. It also said broker credit was unregulated.

Former SEC Chairman Thilak Karunaratne and a few broker firms explained the stock exchange slump on poor macroeconomic management and broker/investor excesses during the 2009/2010 surge.

In fact, very few in the industry were able to see the market was overheating and that a slump would ensue. However, an influential group of investors and their crony brokers had blamed the market’s fall on overregulation, a ruse to stifle investigations into rampant market irregularities and offences.

The Central Bank explaining last year’s slump said it was due to a market correction and that the SEC was imposing limits to curb large, unregulated broker credit. This year however, the very same broker credit limits, now relaxed, is portrayed in a different light.

"The Colombo Stock Exchange (CSE) showed signs of recovery in the month of September 2012. Although in the first eight months of the year, equity price indices saw a downward movement reflecting negative investor market sentiments contributed by increased interest rates, limits imposed on stock brokers’ credit, lack of market liquidity, as well as the spillover effects of the developments in global financial markets, equity prices surged upwards from the end of August 2012 reflecting positive market sentiments among investors," the Central Bank said in a recent report released on November 08.

"The All Share Price Index (ASPI) declined by 2 per cent, while the Milanka Price Index (MPI) increased by 8 per cent during the first nine months of 2012. The CSE introduced a new S&P SL20 index on 27 June in 2012 with a view to increasing the level of transparency and integrity in the market and this index has increased by 14 per cent by end September 2012.

The market price earnings ratio declined to 16 by end September 2012 from 18 at end September 2011. Market capitalisation increased by 3 per cent (or Rs. 71 billion) to Rs. 2.3 trillion at end September 2012, which is equivalent to about 30 per cent of GDP.

The number of companies listed on the CSE increased by 16 to 287 by end September 2012. There were 5 Initial Public Offerings (IPOs) through which Rs.1.6 billion was raised and 12 rights issues through which Rs.6.4 billion was mobilised during the period.

Although daily average turnover declined, foreign investors remained net buyers while domestic investors dominated the market. The average daily turnover declined to Rs. 954 million during the first nine months of 2012, compared with Rs. 2,286 million in 2011. Domestic investors accounted for about 69 per cent of turnover. There was a net inflow of foreign funds to the market, in the first nine months of 2012 amounting to Rs. 31.5 billion (or US dollars 243 million), compared to a net outflow of Rs. 17 billion (or US dollars 154 million) in the corresponding period of 2011.

"Several measures were introduced by the SEC to facilitate the smooth functioning of the stock market. The 10 per cent price band imposed for 5 market days on volatile securities was removed in April 2012 and several measures were also introduced to mitigate settlement risk. A number of revisions have been made to the listing rules of the CSE as well," the Central Bank said.

In its 2011 Annual report, the Central Bank said the decline in share prices that year was due to a market correction after prices surged for two years since the decades long conflict ended in May 2009. The Central Bank also said broker credit was unregulated.

"Several measures were introduced to facilitate the smooth functioning of the stock market. In view of the large amount of unregulated credit extended by stockbrokers, the SEC introduced measures to restrict the provision of credit by stock brokers from 2011," the Central Bank said.

"Foreigners were net sellers in the market, and net foreign purchases continued the downward trend which started in the latter part of 2009. Total foreign purchases and total foreign sales were Rs. 50 billion and Rs. 69 billion respectively in 2011, recording a net foreign outflow of Rs. 19 billion for the year, compared with a net foreign outflow of Rs. 26 billion in 2010."

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