An interview with AKD

By Ashraf Khan
July 11 - 17, 2005

Aqeel Kareem Dhedhi (AKD) is an eminent name in the Pakistani capital market. Besides one of the largest brokerage houses, Dhedhi runs several business houses, dealing in IT, telecommunication, financial market and other sectors. PAGE did an exclusive interview with Dhedhi on the crucial issue of margin financing. Excerpts of the interview are as follow:

PAGE: Why has been such a staunch resistance among brokers' community against margin financing?

Dhedhi: SECP (Security and Exchange Commission of Pakistan) had decided it almost one-and-a-half years ago to phase out carry-over-trade (COT). So it was obvious that COT should have been phased out after implementation of margin financing as the said announcement of the SECP clearly mentioned that COT will be phased out 'after' the implementation of margin financing. And I believe whatsoever rules and modifications the SECP envisages should be in accordance with the already prescribed laws. So the new procedures, if you refer to the relevant clauses of the sections, which lay basis of power and functions of the commission, are in contrast to the rules.

For instance SECP should maintain facilities and improve the performance of companies and of securities markets, in the interest of commercial certainty, reducing business costs and efficiency and development of the economy...a clause reads but the new rules regarding margin financing negate this very role of the commission.

PAGE: How do the new rules disagree with the commission's role.

Dhedhi: Well, the State Bank advised the commercial banks to provide liquidity for the margin financing and they committed, for instance, Rs. 20 billion but they are not in place. That certainly created uncertainty instead of creating coherent and conducive investment climate. It is clear that all the stakeholders, especially the two regulators i.e. the SECP and SBP- have different perspectives on the issue and the banks do not have proper technical and operational skills and resources to implement margin financing.

Secondly, banks are mostly reluctant to deal with small clients. Even in case of large clients, they often insist that the current modes of lending (running finance or over draft) should be replaced with margin financing. Therefore, no additional funds are available. In terms of documentation, margin financing is much more cumbersome, thereby adding to the confusion. Frankly speaking, in the economy like ours there is still a large segment which has remained undocumented and one of the pre-requisites for the margin financing is documentation. I believe, this has been the reason as well in India where margin financing was introduced and the COT was later allowed to operate parallel after the move appeared flopped.

You see there is no convergence of views in case of margin finance as far as brokers and clients are concerned. Clients want easy availability whereas the banks have to adhere to their procedures.

PAGE: But phasing out of COT was announced and carried last year and things were pretty foreseeable so why the market hit snags when implementation reaches to finales.

Dhedhi: Let me explain you the background and the development which took place after its announcement by the SECP. The phase-out schedule was announced on October 4, 2004, giving a scrip-wise timeframe beginning with smaller scrips. From the experience of the implementation of the schedule, the members of the stock exchanges felt that COT should not be phased out until proper implementation of margin financing and they also made presentations to the SECP and other stakeholders in this regard.

But after the March 2005 crash, the SECP redoubled its efforts to quickly phase out COT, citing it (COT) as the main reason for the crash, whereas the crash was caused due to lack of liquidity in the market and the non-implementation of rules regarding rollover of future contracts. Nevertheless, the actual reasons behind the crash are yet to be known as a report of the enquiry committee that was constituted for the purpose is still awaited. We would soon know as the committee has submitted the report.

However, in April 2005, a meeting was held by the SECP and a revised COT phase-out plan was hastily agreed upon, which subsequently created a lot of controversy and is being deemed as a forced measure of the SECP. Now lets have a look at the practical aspects of the issue. At that time (after the crash), the governor SBP, held a meeting with the heads of various banks and it was agreed that commercial banks will inject a further sum of Rs.20 billion for margin financing over and above the limits/funding available to the market participants under various other heads. However, according to the report of NCSS, approximately Rs.200 million or only one percent of the proposed Rs.20 billion has thus far been made available for margin financing by various banks. With such a meager availability of funds for margin financing, about 40 percent of badla (COT) funding has been withdrawn. Now its our prime fear that these factors may cause severe liquidity crunch in the market, adversely affecting the government's economic plans creating uncertainty and eroding investors confidence.

PAGE: What other factors impeding margin financing.

Dhedhi: Among other things there are technical issues relating to margin financing. Under the current procedure the associate members, ­the banks and financial institutions cannot have access to the KSE system. Therefore, there are gaps in the National Clearing System, the KSE system and the systems of lenders. Due to current procedure, margins are not released for one or two days after the completion of the transaction thereby creating acute liquidity crunch of the brokerage houses. There is a number of logistic issues that cause delays in provision of margin financing. The documentation involved, the approval process, and share acceptability are creating logistic problems. These would eventually be understood and solved but at present are causing delays in the implementation of margin financing.

PAGE: What would you suggest to overcome these problems?

Dhedhi: In my view COT financing and mode of trading is more equitable, suitable and amenable for the small investors and I strongly recommend that COT financing should be restored and continued. Moreover, margin financing and COT financing should run concurrently for the time being. And a committee comprising all the stakeholders should review COT phase-out plan every three months. Yes, there should be more efforts to ensure against risks after COT is restored and in this regard COT may be confined to about 15 or 20 major scrips. COT should not exceed 50 percent of the free float or 2.5 percent of the total market capitalization, whichever is lower.