This week: The development of a capital market
Sunday Stabroek Perspective
Stabroek News
April 25, 1999
Continued...
The Securities Exchange
The term 'Stock Exchange' was first used in England in 1773. Since then
Stock Exchanges have become an established feature of the developed
economies of the world and a number have now been formed in many of
the developing countries as a result of the introduction of financial sector
reform programmes by their respective governments. It is fair to say,
however, that the evolution of these 'emerging markets' as they are
known in developing countries has not been without incident and it is
vital, therefore, to understand and also not to underestimate the
importance of the forces likely to impact the development of the financial
market in Guyana as a result of the international trade and foreign
exchange market liberalisation that is currently occurring.
In this context, the unfortunate experience of Mexico not so long ago
and the more recent turmoil in the Far Eastern, Brazilian and Russian
financial markets should provide Guyana with the opportunity to analyse
how such a predicament developed so that safeguards can be
incorporated to prevent a similar problem arising in this country.
The organisational structure of a Stock Exchange, or to use the broader
terminology, a
"Securities Exchange", can take various forms. A recent trend has been
for it to be structured as a self-regulatory organisation established in
accordance with the provisions of a Securities Industry Act. The Act
would provide that no entity would be able to carry on business as a
Securities Exchange unless registered as a self-regulatory organisation
under the Act. A Securities Exchange would be defined as an entity that
maintains or provides physical facilities where persons may meet to
execute trades in securities or a mechanical, electronic or other system
that facilitates execution of trades in securities by matching offers of
purchase and sale.
The business of the Securities Exchange would be governed by a
Securities Council which would possess the power to make and amend its
rules in accordance with the provisions of the Act. Other sections of the
Act would address, inter alia, areas such as Registration of Market
Participants, Registration of Issuers and Securities, Distributions,
Market Conduct and Regulations, Dealings by Persons Connected with
Issuers, Civil Liability and Enforcement.
It will be recalled that a Call Exchange, the first step in the
establishment of a Securities
Exchange, had been formed in Guyana with trading commencing during
December 1993. There were twelve businesses registered as members
of the Call Exchange. They were Bank of Baroda, Bank of Nova Scotia,
Beharry Stockbrokers, Caribbean Stockbrokers, Globe Trust and
Investment Co., Guyana Bank for Trade and Industry, Guyana National
Co-operative Bank, GNCB Trust Corporation, International
Investments, Laparkan Financial Services, National Bank of Industry
and Commerce, and Trust Company (Guyana). However, the level of
business was always extremely thin and it eventually ceased to function
as a market. The initiative to establish the Call Exchange was premature
as it did not have the raising of new money as an objective and neither
was it backed by securities legislation. This latter shortcoming has now
been addressed with the passage, in December 1998, of the Securities
Industry Act.
The Securities Industry Act 1998 provides for the establishment of a
Securities Council and for the registration of various categories of
market participants with that body. Such cateration of various categories of
market participants with that body. Such categories include the activities
of a broker, dealer, trader, underwriter, investment advisor, securities
intermediary and securities company. Thus, the legislation has now been
established to facilitate the formation of a Securities Exchange. A
Securities Council will need to be constituted and the rules and
regulations of the market developed.
There is a need for viable institutions to facilitate the development of the
capital market and Securities Exchange in Guyana. We have already
identified that the establishment of an effective capital market and
Securities Exchange is a vital ingredient in the quest for sustainable
economic growth in a market economy where the private sector is
charged with being the engine of growth.
There will be a requirement for the establishment of stockbroking firms
that will be members of the Securities Exchange. In order to qualify for
membership, a company will need to comply with the rules and
regulations relating to registration and licensing. These are likely to
include, inter alia, the need to maintain a certain minimum paid up
capital.
Transactions on the Securities Exchange would be conducted through a
broker who would be a licensed individual acting as an agent for clients,
purchasing and selling stock in the market for a commission. Sometimes
a broker may act as a principal buying and selling for his own account.
All applicants to become a broker (or any other market participant for
that matter) will be
required to satisfy certain "basic qualifications" as defined in the Act. In
respect of an individual, this information may include, inter alia, details
of professional or business qualifications and any substantial
stockholding in any financial institution. In addition, applicants must be
of good character and it is not unusual for there to be a stipulation that
stockbroking be the applicant's prime occupation or business. Applicants
may be required to pass a written examination and possess a recognised
qualification in a related activity such as accountancy, economics,
banking, business administration or law.
The actual medium used for trading varies from country to country and
can range from various forms of electronic trading to a physical meeting
of the brokers. A typical format for the latter provides for the brokers to
come to the floor of the Securities Exchange where, through an auction
system, efforts are made to match buyers and sellers.
It is not only stocks and shares that are traded on a Securities
Exchange. The trading of bonds can also be carried out and an individual
who is registered and licensed to carry out such an activity is known as
an authorised Bond Dealer. Such a person, again, may trade as a
principal, buying and selling for his own account or on an agency basis,
trading on behalf of his clients for a commission.
The Financial Institutions
There will be a growing requirement for a variety of financial products
and services to facilitate the development process. Viable financial
institutions must be established to provide the wide range of financial
products and services that both the private sector, as the engine of
economic growth, and the public sector will be seeking.
Before focussing on the types of financial institutions that need to be
established in Guyana, it is instructive, first, to review the composition
and nature of the financial sector in this country at the moment. There
are a number of financial institutions catering to the requirements of
their customers but the range of products and services remains limited.
Currently, there are seven commercial banks operating in
Guyana--namely, Guyana National Co-operative Bank, National Bank
of Industry and Commerce, Guyana Bank for Trade and Industry,
Demerara Bank, Citizens Bank Guyana, Bank of Baroda and Bank of
Nova Scotia. The last two institutions are branch operations of overseas
companies.
In the early 1990's, the lending practices of the banks, in general were
most conservative and that situation prevailed primarily because of the
attractiveness of treasury bills issued by the Government. The result
was that during that period some two-thirds of the assets of the
commercial banking sector comprised treasury bills and reserves at the
Bank of Guyana. By comparison, private sector loans and advances
accounted for under 20% of assets.
However, as a result of the decline in the attractiveness of treasury bills
coupled with an increase in the competitiveness of the market resulting
from the commencement of operations of Demerara Bank and Citizens
Bank Guyana, the commercial banks adopted a more aggressive lending
posture that resulted in the level of private sector loans and advances
increasing to 50% by the end of June 1998. However, the terms are
formally short-term and are frequently rolled over. The commercial
banks do not offer long-term credit, although loans with a term of about
three years are available to preferred bank customers. Although new
financial products have been introduced, the range of products and
services offered to the private sector still remains very limited.
There are three trust companies operating in Guyana--namely, Globe
Trust and Investment Co., GNCB Trust Corporation and Trust Company
(Guyana). The range of services provided by these institutions includes
investment accounts, investment management, pension fund
administration, property management, cambio, registrars, brokerage,
underwriting and mortgage and bridge financing.
The New Building Society, which was established by the New Building
Society Act, provides mortgage financing facilities.
There are a number of insurance companies including Clico Life &
General Insurance Co., Demerara Mutual Life Group of Companies,
Caribbean Home Insurance, Great Eagle Star Insurance Company
(Guyana), GTM Fire & Life Group of Companies, Hand-In-Hand
Mutual Fire & Life Group of Companies, GCIS, North American Fire &
General Insurance Company, North American Life Insurance Co.,
Republic Insurance Company, John Fernandes Insurance Services and
National Insurance Scheme. An analysis of the insurance companies'
assets estimated at the end of June 1998 revealed that, in the main,
these comprised foreign and local bank deposits and foreign loans and
securities. Although exposure to domestic corporate securities has more
than doubled over the past three years, these assets still comprise only
8.2% of total assets.
The estimated total assets of the pension schemes at the end of June
1998 amounted to G$7.4bn. Of this figure, G$5.9bn (79.5%) represented
cash and deposits with the banking system, Government treasury bills
and Government debentures. Only G$0.8bn (10.4%) of the total assets
represented investments in shares and other securities of the private
sector.
The Institute of Private Enterprise Development, which is a National
Development Institution, promotes the development and growth of
medium, small and micro businesses.
It is clear from the foregoing analysis that although there is a well
established financial sector in Guyana its practices have historically
been very conservative and if it is to evolve in order to provide the types
of financial products and services that both the public and private sectors
are going to demand then there must be greater innovation and vigor on
the part of the industry and, whenever necessary, the appropriate
facilitation on the part of the Government.
New Financial Institutions
The types of financial products and services that are going to be
required will include, inter alia, money market instruments, capital
market instruments, securities issuance, securities underwriting,
securities broking/dealing/trading activities, project financing, syndicated
financing, mortgage financing, leasing, financial advisory services,
mergers and acquisitions, investment research, asset management (cash
and securities), currency risk management, venture capital and
additional unit trusts/mutual funds.
In anticipation of the requirement for such an array of new financial
products and services, it is critical that viable financial institutions are
established so that the demand can be satisfied in a thoroughly
professional and proficient manner. Existing financial institutions will
need to be restructured in order to position themselves to cater
effectively to the requirements of their customers.
New financial institutions will have to be established in Guyana to
deliver the new products and services that the existing institutions either
are not able to provide or for which they may be constrained from
offering or not wish to develop the expertise to supply. Such new
financial institutions could include, inter alia, merchant banks, financial
advisory/consultancy businesses, unit trusts/mutual funds, home
mortgage bank and venture capital companies.
The central bank recently approved GBTI's application to establish
Guyana's first merchant bank
Merchant Banks
It would be useful to quantify what a merchant bank is and what its
functions are. However, this is much easier said than done as the
definition of a merchant bank is far from precise. The title is often
misused as a general description of firms that operate in the financial
sector. However, following the introduction of legislation this description
could only be used in the U.K. by institutions which are recognised
banks.
These financial institutions respond to client demands for a service which
is confidential,
objective, technically creative and predicated on the development of
long-term relationships. They provide all manner of financial services
and the range of these services reflects the growing complexity of
international business.
Their activities were originally associated with foreign trade and
international capital movement but the nature of their business has
changed dramatically. Other services which are now offered include the
taking of deposits and provision of loans, syndicated financing, company
flotations, the raising of equity and loan capital through public issues and
private placements, securities underwriting, securities
broking/dealing/trading, project financing, leasing, foreign exchange,
domestic and international private and public sector advisory services
including mergers/acquisitions and disposals/privatisations, and dealing
in a wide range of commodities.
Regarding the products and services that a merchant banking institution
in Guyana may seek to provide, it is likely that the immediate focus will
be on money and capital market instruments, company flotations, the
raising of equity and loan capital through public issues and private
placements, securities underwriting and broking/dealing/trading
activities, project financing, financial advisory services, mergers and
acquisitions, asset management and venture capital.
The Central Bank recently approved the application of the Guyana Bank
for Trade and Industry ("GBTI") for the establishment of Guyana's first
merchant banking operation. The merchant bank, to be called the
Guyana Americas Merchant Bank, will be a joint-venture between
GBTI, Secure International Finance Company and the International
Finance Corporation ("IFC"), the private sector arm of the World Bank.
The merchant bank will be located at GBTI's Regent Street branch
office and is expected to commence operations shortly.
Financial Advisors/Consultants
Financial advisory/consultancy firms are not in the business of taking
deposits and making loans and do not, therefore, fall into the category of
a bank. Such businesses, which would have to be registered with the
Securities Council under the provisions of the Securities Industry Act,te the
development of a capital market and Securities Exchange is to provide
encouragement and incentives for investors to invest. One of the ways of
stimulating the demand for equities is to reduce the risk to investors
through encouraging participation in unit trusts or mutual funds. This can
be achieved by providing incentives to small investors in the form of tax
breaks on their investments. There are unit trusts already in operation in
Guyana and, given the experiences of Europe and North America, this is
a medium for investment in securities that could develop rapidly given
the right encouragement.
Home Mortgage Bank
It was identified in Trinidad and Tobago a number of years ago that one
of the ways of remedying the inadequate level of funding available for
mortgage lending was through the creation of an organised secondary
market for mortgage loans.
The reason for this is that the purchase and sale of mortgage loans
through such a market provide liquidity to the financial institutions
engaged in mortgage lending thus enabling more mortgage loans to be
made. In order to create and activate an organised secondary market in
Trinidad and Tobago, a privately managed mortgage bank was
established.
The mortgage bank also contributed to the development and growth of
the capital market through the introduction of medium- and long-term
mortgage bonds which increased both the volume and term of domestic
savings.
The Home Mortgage Bank ("Mortgage Bank") was established in
Trinidad and Tobago by the Home Mortgage Bank Act 1985. Under the
Act the Government of Trinidad and Tobago granted tax exemption on
the interest income earned on bonds issued by the Mortgage Bank. The
first bond issue of the Mortgage Bank in January 1987 was
oversubscribed and this has been the case with numerous subsequent
bond issues.
The shareholders of the Mortgage Bank include the Central Bank of
Trinidad and Tobago, the National Insurance Board, commercial banks,
insurance institutions and the IFC, which acquired a 10% interest. The
shareholding structure fulfilled the IFC's stance that the Mortgage Bank
should be privately controlled and managed. This investment by the IFC
represented one of a number of such equity participations in housing
finance institutions with which it is involved worldwide.
The purposes of the Mortgage Bank, as set out in the Act, are:
1. To develop and maintain a secondary mortgage market in Trinidad
and Tobago;
2. To contribute to the mobilization of long-term savings for investment
in housing;
3. To support the development of a system of housing finance and
provide leadership in
the housing and home finance industry; and
4. To promote the growth of the capital market.
The significance of this final purpose for long-term sustainable economic
development within a mixed economy has been stressed most vigorously
throughout this article.
As a result of the tremendous success of the Home Mortgage Bank of
Trinidad and Tobago, a similar institution, the Eastern Caribbean Home
Mortgage Bank, whose headquarters are in St. Kitts, was established
under the Eastern Caribbean Home Mortgage Bank Agreement Act to
serve the eight territories comprising the Organisation of Eastern
Caribbean States ("OECS"), namely, Grenada, St. Vincent and the
Grenadines, Dominica, Montserrat, St. Lucia, Antigua, Anguilla and St.
Kitts/Nevis. The Home Mortgage Bank of Trinidad and Tobago took a
20% shareholding in the new institution and, together with the IFC plays
a supporting role in the development of the new institution.
Venture Capital Companies
The Government has stated that the private sector is the engine of
economic growth in Guyana. Often, it is a lack of equity capital that acts
as a constraint to the development of new businesses. There is an
immediate requirement for risk or venture capital to be made available
in Guyana in order to facilitate the growth of the private sector.
This was recognised in Trinidad and Tobago and the Government passed
the Venture Capital Act 1994 to encourage the development of a venture
capital industry in that country. It may well be necessary for the
Government to undertake such an initiative in Guyana so as to
encourage financial institutions, through a venture capital arm, to
participate in the risks associated with new business development.
Conclusion
Investment is the fuel for the engine of growth and investment is made
possible through
sawell be necessary for the
Government to undertake such an initiative in Guyana so as to
encourage financial institutions, through a venture capital arm, to
participate in the risks associated with new business development.
Conclusion
Investment is the fuel for the engine of growth and investment is made
possible through
savings. Economic development is about accelerating the rate of capital
formation. Capital
investment needs to be financed using long-term funding. The capacity of
the financial
market in Guyana has to be expanded to facilitate the mobilisation of
savings for
investment purposes.
The establishment of an effective capital market and Securities
Exchange is fundamental to the quest for sustainable economic growth in
a market economy where the private sector is charged with being the
engine of growth. Without these, it is fair to say that the private sector is
unlikely to be able to perform its role and sustainable economic growth is
unlikely to be achieved.
The establishment of Guyana's first merchant bank, Guyana Americas
Merchant Bank, is
an important step towards developing the institutional environment and
support that is
needed if we are ever to achieve sustainable economic growth and a
resultant improvement in the living standards of all of us.
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