With CFS in place, one should hopefully not see re-eruption of any March-like crisis


Sep 05 - 11, 2005


After deliberations between all the stakeholders, Securities Exchange Commission of Pakistan, (SECP), the stock market regulator; Karachi Stock Exchange (KSE), front liner regulator; and intervention by Prime Minister Shaukat Aziz, a bailout package was designed and instead of badla, which appeared to be a crude jargon for the market participants a new system- Continuous Funding System (CFS) - has been introduced, which is a refined form of liquidity injection plan.

The maximum amount under CFS is capped at Rs 25 billion while the financing facility has been raised to 14 scrips. CFS is the replacement of Badla, which was capped at Rs 12 billion and available for 7 scrips. The 7 new scrips included in CFS are: Muslim Commercial Bank (MCB), Pakistan Petroleum Limited (PPL), Bank of Punjab (BoP), Fauji Fertilizer Bin Qasim (FFBL), Pakistan PTA (PPTA), Fauji Cement (FCCL) and Sui Northern Gas Pipelines Limited (SNGPL).

Total investment in CFS depicted a rising trend during the first week of introduction and leverage buyers utilized Rs 10.5 billion on first session as badla investment reached Rs 22.5 billion at the weekend up from Rs 12 billion.

The introduction of new financing system gave much needed support to the market and since its announcement the KSE-100 index has gained almost 9.7 percent, or 690 points to 7789.76 (closing of the KSE on September 2).

"The CFS would be available for the whole day and, going forward, my belief is that the rates would stabilise as the system of financing has now been institutionalised and would be price-effective. The rates would not show the yo-yo pattern, following the new system. Rather, it would mitigate all risk factors and would not show erratic behaviour as in the past," a leading trader said.

Index-based options are also being contemplated upon and are expected to hit the market by year-end. Shares against CFS financing would be kept in a separate CDC account to ensure that these shares cannot be used for loaning against 'blank' and 'short' selling. CFS and T+3 market would be separate for the purpose of risk management. CFS margin regime would be different from T+3, and broker assets other than margin would be available first for the settlement of T+3 transactions and then for CFS.

Shahab Farooq, senior investment analyst at First Capital Equities said that besides introduction of CFS, the market gained momentum because of receiving healthy earning reports from trendsetters of the market such as Bank of Punjab, National Bank of Pakistan, Pakistan Petroleum Ltd., ICI etc and hoped that some more results would filter in from the companies having heavy weightage in the index such as OGDC and PTCL.

Responding to a question, Arshad Arif, head of group research at KASB, said that the CFS system is primarily meant to resolve the deadlock created by the replacement of COT with the margin financing. However, this is a short-term measure as the regulators are planning to review the situation during 1QCY06 and will then announce the phase-out of CFS along with the re-launching of margin financing.

When asked will the system needs some amendments as there is a feeling that there should be no cap on this?

Yes. The existing mechanism has a cap of Rs 25 billion in terms of overall financing under CFS. Given the fact that the CFS financing is already approaching this level, it would be difficult for the market to maintain its existing upward thrust in the near future. I don't' think that enhancing this limit will be the right solution. The market will be in a similar situation once the enhanced limit hits. An optimal solution would be to free this cap and let the market forces decide an appropriate level.

Q: The limit will be reviewed in February, what are your suggestions?

A: I think the review will be on an overall basis, not just the limit. According to my understanding, the regulators will review the viability of re-launching margin financing in February and may come up with a new schedule to replace CFS with margin financing. In my view the regulators should try to find an alternative in a way that speculative capital and speculative interest in the market should stay protected. For the successful running of the margin financing, the regulators have to come up with vital incentives for the investors to switch on otherwise CFs or COT or private COT would stay as the most popular means of financing among the speculators.

Q: What the regulator and front line runner should do more to improve the sentiment of the market men and other investors?

A: I think the regulators have to come up with a proper mechanism to penalize those who ruined the market in March. In particular the regulators have to come up with the appropriate solutions for insider trading, front running, back burning and wash trades. Imposing nominal fines on the large brokers would not deliver for this.

Q: Why foreign investors are still not inclined towards Pakistani bourses?

A: The Pakistan-specific risk is still in the minds of foreign investors. Though our economy is turning into good shapes, the economic turnaround is very skewed and this creates uncertainty about its sustainability. We have yet to see any Western buyer of our assets offered for privatization. The political risk is still lingering on with most of the foreign investors raising concerns about the viability of Pakistan without Musharraf.

It is a sure breather for the stock market but the regulator is sticking to its words and wants to introduce margin financing system. "The system is harsh and would increase documentation of the buyers and sellers which would surely draw an opposition as several investors are hesitant to disclose the trading pattern, so in the long run, the limit would be revised and CFS would be the new brand name for financing," a leading trader said.

The institution that would imitate the role of Takas Bank of Turkey or Euro Net should become effective by February 28, 2006. It would perform financing, depository and settlement functions. With CFS in place, one should hopefully not see re-eruption any March-like crisis, the same trader said.