By Chandra Jayaratne –
At times, due to external environmental reasons or entity specific reasons, publicly traded securities face heightened risks. These risks may emerge at an entity or group consolidated level or it may apply to a specific sector or in general to all securities; these risks may arise consequent to specific events or be systemic risks.
Some of the risks that Sri Lankan traded securities have already faced/may face in the future, include the following:
Fiscal and Monetary Policy related risks including tax policy
State policy changes or inconsistency of application of state policy related risks
Weather and natural perils and or natural /manmade disasters including fire etc. related risks
Board and Top Management conflicts and Capability related risks
Litigation related risks including assets subject to mortgage being appropriated
Major Fraud, Misappropriation, Corruption or Money Laundering related risks
Transparency risks, gross misrepresentation and fraudulent financial statements based risks
Non-compliance with legal and regulatory requirements and set standards related risks
Trading in insolvency/ with Serious Loss of Capital/ Major transactions and unmitigated capital commitments based risks
Liquidity risks and working capital adequacy risks
Inability to meet licensing and other contractual commitments based risks
Market integrity and efficiency risks; including risks from securities offences – pumping and dumping, front running, conflicts of interests and insider dealings related risks
Complexity Risks and Concentration and Heavy Exposure Risks
War and International Sanctions/Boycotts and International Trade and Tariff Restrictions based risks
It is well recognized that many active and passive participants in the Sri Lankan securities market are not sufficiently sophisticated nor backed by professional analysts/brokers and advisors nor are they exposed to professionally developed flags/indicators and media exposes to be cognizant of current and emerging risks? In such a context, the most important question is who should be accountable to transparently with independence /no-conflicts of interests basis signal to the market current and emerging risks?
The Central Bank, Securities Exchange Commission, Stock Exchange, Chamber of Commerce, University Academics, Researchers/Analysts, Brokers Association, External Auditors, Professionals bound by ‘NOCLAR’ commitments, Accounting and Auditing Standards Monitoring Board, Professional Accountancy/Investment Associations, Media and Investigative Journalists are some of the options to undertake commitments for signaling.
In order to simplify let us now look at some of the past and present examples of risks of Securities Trading in Sri Lanka:
The collapse of banking and finance and primary dealer companies with serious losses accruing to depositors
Larger and growing informal economy perceived to be funded by smuggling of gems/precious metals, narcotics trading, and transfer pricing in import and export trading and services
Purported market manipulations, pumping and dumping , front running, insider trading as reported by the Bond scam investigations
Conflicts of interests and related party transactions of significant magnitude that have plagued many a failed listed and unlisted entity
Exposes as per Panama Papers, and possibly also in recent Mauritius Papers
The exposes around management fees and profit transfers by managing agents of plantations and hotel companies
The plantations sector now facing a purported debilitating statutory compliance regards minimum daily wages, with a threat of take-over – some of these entities; whereas are in the process of issuing new rights to existing shareholders
Initial Offer prices of IPO’s and Rights Issues being unreasonable, unrealistic and unprofessionally developed, with questionable valuation methodologies and without reference to expected prudent benchmark valuation methods; and at times totally inconsistent with previous recent issue prices and genuine market trades
Offer prices on de-listing and mergers and acquisitions being unreasonable, unrealistic and unprofessionally developed with questionable valuation methodologies and without reference to expected prudent benchmark valuation methods
Banking sector facing imposed lending rate ceilings, directed lending, moratorium on outstanding loan portfolios and CRIB negative reports being ignored
Serious money laundering, proceeds of crime and transfer pricing allegations and linked suspicious transactions purportedly discovered during FCID/CID investigations
Significant cases and observations discovered by the Accounting and Auditing Standards Monitoring Board- http://slaasmb.gov.lk/significant-cases-detected/
Spiraling downwards independent Debt ratings and perceived impending external debt crisis
Risks of high fiscal deficits and ambers signals from international monetary authorities
The SEC Sri Lanka’s mission is “to promote, develop and maintain a capital market that is fair, efficient, orderly and transparent”. The US SEC, which the local SEC uses as its benchmark, has as its mission “to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation” and states “As more and more first-time investors turn to the markets to help secure their futures, pay for homes, and send children to college, our investor protection mission is more compelling than ever”- “all investors, whether large institutions or private individuals, should have access to certain basic facts about an investment prior to buying it, and so long as they hold it”- “the SEC continually works with all major market participants, including especially the investors in our securities markets, to listen to their concerns and to learn from their experience”- “SEC is concerned primarily with promoting the disclosure of important market-related information, maintaining fair dealing, and protecting against fraud”.
Should not the SEC and other parties specified in paragraph 4 above, collectively develop cohesive systems of accountability to actively be conscious of/ concerned with & engaged in early identification, amber light signaling, minimizing and managing systemic risks, likely to impact on securities trading in General, including risks identified in paragraph 2 and amplified by examples in paragraph 5; especially, where the levels emerging risks are significant and can impact sustainable profitability and financial stability/solvency of an entity or place such high risks an entire sector; and in such instances will they publicly announce and make investors aware of the potential general or for a limited period valid heightened risks signals, by amber signal marked flags, the heightened risks applying to any sector of securities?; Or even freeze/halt trading in any sector of securities, where heightened risks are anticipated?
It is pertinent that the SEC and other parties specified in paragraph 4 above, recognize that IOSCO Research Department: Staff Working Paper 2012/1 titled Systemic Risk Identification in Securities Markets states that the use of macro- and micro-level indicators allow for a top-down and bottom-up approach to systemic risk identification and monitoring; and further that internal and external risk factors (within and outside of securities markets) can be taken into account by securities regulators, minimizing the chance of risk build-up ‘falling through the cracks’. This top-down and bottom-up approach is represented in Figure 1.