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SEC:Will reforms uplift capital market and economy?

Monday, March 15, 2010
Oteh and Dangote
Since assumption of office last February, the new Director-General of the Securities and Exchange Commission (SEC), Ms Arunma Oteh, has expressed the resolve to implement sweeping reforms capable of lifting the capital market and re-position it among the leading capital markets in Africa that meets international standards and best practices.

Unveiling a road map for rebuilding the market recently at a briefing in Lagos, Oteh declared that the commission will adopt recommendations of the I5-man National Committee on Review of Capital Market Structure and Processes established at the instance of SEC in September 2008.

According to her, the 32-point recommendations articulated the reforms needed to lift the capital market out of the doldrums and laid strong foundations for some of the key issues to be undertaken by SEC.

She noted that well-functioning capital markets are essential to Nigeria's economic development, stressing that to realize its full potential, the country must have a world class capital market that is strong, sustainable, well-functioning, and plays a central role in the economic development of the nation.

'First of all, we have to increase the depth, breadth and sophistication of the market. There are a limited number of asset classes as the market is dominated by equity investments. Therefore, we need to expand market offerings to include products such as fixed income securities. Hedging instruments such as futures and other derivatives need to be promoted as well as securities lending and Collective Investment Schemes', Oteh stated.

She spoke of a fundamental need to strengthen regulatory oversight, adding that SEC would improve the effectiveness of market regulation, oversight and supervision and also strengthen the SEC itself in terms of its capacity and operations.

The SEC boss added that disclosure, transparency and accountability are also key issues that need to be addressed in the market, saying that the commission must continue to send the right signals about the critical importance of integrity and transparency as ingredients of good corporate governance. She also noted the need to establish strong institutions across the market and instill principles of risk management into capital market operations.

'We need the co-operation of all market operators to ensure that the SEC has access to a set of reliable information about operations in the capital markets. The SEC and the NSE will also be collaborating to update, implement, monitor and enforce a comprehensive risk management framework that reliably keeps systemic risk in check', the SEC boss concluded.

But given the unintended fallouts of banking reforms, analysts are skeptical about what becomes the fate of the market after the much taunted-reforms. The question is: Will the reforms uplift the capital market? Let us seek an answer by considering some of the issues that necessitated the compelling need for reforms.

Reminiscing on how the stock market fared during the regime of margin loans, Mr. Dipo Aina, the Managing Director of Signet Investments and Securities Ltd, recounted all the malpractices prevalent in the stock market leading up to the bubble burst and eventual market crash in 2009. According to the senior dealing member of the Exchange (NSE), the period that has come to be known as 'era of irrational exuberance' witnessed an upsurge of infractions and abuses translated to over bloated market capitalization and index which many thought to be market growth.

'Years 2006 and 2007 witnessed an upsurge in private placements which were mostly oversubscribed when eventually listed by introduction on the Nigerian Stock Exchange. The private placements and Initial Public Offers (IPOs) were mostly financed by bank loans and margin accounts.

These offers were ushered in by a lot of media hype and razzmatazz. Unofficial secondary markets were created for these private placements and they actually sold at premium even before listing them at the Exchange. All these malpractices were very prevalent in the market.

The stock exchange witnessed unprecedented price movement, which translated to high market capitalization and index. Some of the moribund companies witnessed significant movements in their prices; it was an era when the Nigerian investor was willing to buy any stock in the market no matter how weak the fundamentals of the companies are. It was our era of irrational exuberance.'

Hinging her newfound war of sanitizing the financial markets, the EFCC chairman, Mrs. Farida Waziri described what many saw as bullish market in recent past as market manipulations. According to her, the N90 billion non-performing loans granted a stockbrokerage firm was a single case that exposed the level of connivance between some of the stockbrokerage firms and some bank officials.

Her words: 'What the current investigation of banks has revealed is that there is active role of stockbrokerage firms in manipulating share prices and to distort the market. It beats the imagination that a single stock brokerage firm could have access to over N90 billion from the banking industry. The move to sanitize the stock market is based on its importance to the development of the Nigerian economy.'

The market started 2008 with market capitalization and index of about N10.28 billion and 58,579.77 points respectively. The market reached its peak on March 5, 2008 with market capitalization and index at N12.6 trillion and 66,371.20 points. It closed in December 2008 with market capitalization and index nose-diving sharply to N6, 957,453,501,008.40 and 31,450.78 respectively.

A long period of inevitable market correction interspersed by series of rebound attempts characterized activities between August 2008 and 2009. By the end of 2009, dipping market performance indicators had touched their lowest ebb as share prices bottomed out. But following recovery attempts since the new year, market indices have maintained a dynamic equilibrium, surging up and down again.

As the bearish trend lasted, the National Committee on Review of Capital Market Structure and Processes, instituted at the instance of SEC in September 2008, took a critical look at the stock market and came up with recommendations for reforms which analysts believed could deepen the market if implemented. The committee noted the shallowness of the market as falling short of the pace and development of product offerings in emerging markets of other developing economies.

They therefore recommended for expansion of market products and offerings by inclusion of fixed income products like mutual funds, OTC market, REITS, derivatives and encouragement to non-financial services companies to list on the Exchange as part of the ways of deepening the depth, breadth and sophistication of market products and offerings.

The committee also considered the need for enhancing the debt/fixed income capital market and recommended that a process of enhancing this aspect of the market be put in place. In recent past, joint conferences have been organized by SEC, NSE and Association of Issuing Houses of Nigeria and provision was made for future conferences in this regard.

Above all other recommendations, the committee proposed a demutualization of the Exchange to guarantee full disclosure and increased transparency in the market place. In other words, the Exchange should cease to be a private sector business owned and operated by few individuals, a status that predisposes the market to series of abuses and infractions. In fact, demutualization which the NSE initially drew a programme of its implementation but later suspended indefinitely, was a subtle way to say that both regulators had failed to exercise efficiently their regulatory roles to stem the tide of fraud and sharp practices rife among market operators to the detriment of investors.

But picking the committee's reports point by point in its 20-page reaction, the NSE management dismissed most of the recommendations as flawed, misconceived, or unnecessary alleging that the imbalance in composition of the committee was reflected in many of the recommendations. It lashed out at the Committee saying that people who do not understand the rules, practices and conventions of the market should not be recommending a way forward for the market.

It, however, took note of some of the recommendations while ascribing others as being the responsibility of SEC, Central Bank of Nigeria (CBN) or any other appropriate body. The Exchange's scathing comments on the reports of the committee smacks of the bureaucratic showmanship that typifies the relationship between the two regulators of Nigerian capital market.

Without pretensions to any cordial relationship and harmony of purpose regarding expansion of market products and offerings, NSE warned that the desired objectives cannot be achieved by fiat and that no further expansion could effectively take place without manifest Government support through market-friendly legislation.

According to the Exchange, products are introduced by demand, with operators and investors ultimately deciding on what are needed or the level of sophistication that is possible at any point in time stressing that our environment is not ready for an OTC market. 'The capital market is challenged by serious problems with the regulated market, which are bound to get worse with the operation of a market for unregistered products as represented by the OTC market. It is the indirect route to OTC equity market through the operation of the discredited Private Placement Market that in part led to the current problem in our capital market', the statement claimed.

But beyond this gridlock in which regulators were marooned in recent past, analysts insist that the market is long over due for reforms capable of uplifting it to connect its role to the larger economy for development of a heavy industrial base to propel the real sector of the economy. In an exclusive interview with Daily Sun, the Managing Director and Chief Executive Officer, Lambeth Trust & Investment Company Limited, Mr. Davi Adonri, stated that it was time capital market regulators deliberately promoted the financing of productive real sector of the economy. He said that over the years, capital formation through the Nigerian capital market had largely favoured the services sector of the economy to the detriment of the real productive sector.

According to him, the area of financial intermediation that has been lacking has been that of the capital market in being able to aggregate capital that is sufficient in volume and appropriate in time and cost with which to finance long term capital requirement of the economy. He noted that the new leadership of SEC has seen the need for paradigm shift that is capable of transforming the economy into a heavy industrial base. But then, market regulators must now strategically redirect capital formation to the strategic area of heavy industrial development.

'Why the real sector is underperforming in the economy is the absence of an engineering infrastructure. The capital that should now be formed in the market should be more strategically channeled towards developing Nigeria's engineering infrastructure. And this engineering infrastructure is derived from a heavy industrial base', Adonri stated.

But there is a snag. The heavy industrial base is made up of the metallic industry which comprises of iron and steel and other non-ferrous metal, the power industry, and thirdly the energy industry. These are under the firm control of government with no plans to liberalize the sectors. 'It is the underdevelopment of these three key heavy industries that have denied the country engineering infrastructure that is required to drive light industrial production in a sustainable manner and also other heavy activities. So the process of capital formation should now become even more strategic and should be geared mainly towards financing heavy industrial base,' Adonri submitted.

Corroborating, an industry expert, Mr. Afam Onwuzulike, said that government had no choice but to liberalize energy, power and steel industry to stimulate sustainable industrial growth capable of transforming the economy. He noted that the capital market cannot single-handedly move the economy forward no matter how far reaching regulators reforms could be.

He argued that fund users in sector have had to relay a lot on incentives made available by government because the federal government has more or less monopolized that sector from the economy. He insisted that since government failed and would continue to fail to achieve any physical mark through public finance, it should privatize their holdings in that sector, liberalize it and also come up with deliberate capital formation strategy to encourage players in that sector.

'In government's effort to sustain its hold on the sector, so much public funds have gone down the drains without anything to show for it. So, as a first step, let government privatize its holdings in iron and steel industry, the metallic industry whether ferrous or non ferrous.

'And capitalisation will bring the companies, going to spring up from liberalization of power, energy and steel industry, to the capital market to be listed. It is the companies that will now develop public goods on ground. If Nigeria's power, energy and steel sectors of the economy are not deregulated and privatized, the economy will not move forward.

Perhaps, this is what NSE meant when it warned that the desired objectives for market expansion cannot be achieved by fiat and that no further expansion could effectively take place without manifest Government support through market-friendly legislation.

For Dr. Martin Oluba, Chief Executive Officer and President of Value Fronteira Limited, the most salutary effects of SEC reform-implementation will manifest when it is complimented by larger macro-economic policies and programmes that consciously make room for entrepreneurial prosperity.

He is of the view that liberalization holds the key because it enhances competition and inevitable efficiency in resource allocation and output to the concerned sectors. But that means that the institutional structures and other processes that should enable it to produce the best results are in place.

'There is no doubt however that the liberalization of the areas involving heavy industrial engineering infrastructure will provide needed benefits if the larger macro-economic policies do not stifle entrepreneurial efforts in these areas. While these remain important and will support the long-term real sector and overall economic growth and development, in the absence of concerted attack on corruption and politico-constitutional issues the long-run prospects remain doubtful.

SEC's role in the capital market should be much more proactive and more collaborative.  Of course these hinge on the supposition that the functionaries within SEC substantially appreciate the stakeholder expectations from them. Even this is debatable following historical experiences.

'Ideally, the Commission should have a robust early warning model upon which it can proactively detect imminent disruptions in the normal and expected path of the capital market and work hard to eliminate or minimize its incidence. Much of this it can do by being more collaborative with other regulators such as the CBN and critical ministries such as the Ministry of Finance that can enhance the overall quality of its final policy and programme output.

Its relationship with the NSE should also be consistent with expected reporting line structure and not the other way round as practice showed in recent times', Oluba concluded.