BUBBLY STOCK BUSINESS OR ELSE
May 2 - 15, 2011
After the advent of banking and bond market, the concept and creation of joint-stock company was one of the most revolutionary additions to the world of business and finance. The event was followed by the birth of financial value drivers - the breed of dynamic chief executives - who took corporate business to new heights. Steve Tappin and Andrew Cave write in their book The New Secrets of CEOs: "They are highly skilled at identifying value-enhancing corporate transactions or realizing value from portfolio disposals. Financial value driver chief executives speak the same language as bankers, analysts, and investors. They're obsessed with generating returns for the shareholders who put up capital to start or grow the business. Value generation is their mission and a single-minded focus on shareholder returns is how they aim to deliver it."
The role of stock markets was scripted to keep joint-stock companies under a constant spell of vigil. The Ascent of Money, Niall Ferguson points out: "In theory, the managers of joint-stock companies are supposed to be disciplined by vigilant shareholders, who attend annual meetings, and seek to exert influence directly or indirectly through non-executive directors. In practice, the primary discipline on companies is exerted by stock markets. In effect, stock markets hold hourly referendums on the companies whose shares are traded there: on the quality of their management, on the appeal of their products, on the prospects of their principal markets."
How the institutions of joint-stock companies and stock markets have changed their roles from the constructors of world economics and finance to an untrustworthy combo of insiders and manipulators. These institutions are known to have produced Laws and Lays - John Law, the notorious perpetrator of Mississippi stock bubble and Kenneth Lay, the chief executive of the US energy company Enron, the fourth largest American company in 2000. Stock prices of Enron shot up from $20 in 1997 to $90 in a short period of three years. The top Enron executives wallowed in bonuses and stock options.
The dubious energy empire, Kenneth Lay was determined to build, was in fact founded on overstatement of annual profits, huge understatement of company debts and creation of a series of shady Special Purpose Entities (SPEs) to shield off-Enron-balance sheet items. In 2006, Kenneth Lay was indicted for conspiracy, bank fraud, securities fraud and many other offences. He was found guilty of all the charges.
The 'bubbly' history of world capital markets carries the burden of such unsavory chapters as Tulip Mania of seventeenth century, South Sea and Mississippi Bubbles of eighteenth century, The Great Crash of 1929, The Black Monday of 1987, and The Global Financial Meltdown of 2007-08. The human greed and fear factors are always at the back of stock bubbles.
Free market economy model stresses minimum regulations leaving great room for the speculators and conmen to exploit. The victims are always the household savers and uninitiated common person. It is for the highest regulating body, the central bank, to take timely, stern measures to prevent such bubbles from developing. Niall Ferguson writes: "A crucial role, however, is nearly always played by central bankers, who are supposed to be the cowboys in control of the herd. Clearly, without his Banque Royale, law could have never achieved what he did. Equally clearly, without the loose money policy of the Federal Reserve in the 1990s, Ken Lay and Jeff Skilling would have struggled to crank up the price of Enron stock to $90. By contrast, the Great Depression offers a searing lesson in the dangers of excessively restrictive monetary policy during a stock market crash."
Michael Rowbotham wrote in his book The Grip of Death: "Stock markets - institutions whose prime purpose was once to fund industrial investment - have degenerated into arenas of predatory, volatile speculation, engaged in the parasitic extraction of wealth from the productive economy, where the profit drives, not from a maturing productive investment, but from wild fluctuations in asset values." The question is what is the justification for the existence of these dangerous market places of highly dubious credibility? Can't we scratch this subject from the books of economics and finance? Can't someone implode (or even explode) these firebrand houses to save the entire world from their treacherous influence. The dilemma of the economists is that they cannot veto the existence of stock exchanges like we, despite its highly destructive powers, can not eliminate fire from our lives. It is the use of fire and management of these firebrand houses that really matters. Besides allowing us a chance to burn our fingers, the stock exchanges give the economic and finance mangers an option to integrate actions toward positive achievement of their goals. These markets are the barometer of economy and speedometer of country's economic progress.
Pakistan's stock market history is not much different from that of the world capital markets. Until late 1980s, hardly few commoners knew what really happened inside the stock exchange building at the far end of McLeod Road. It was the boom of 1990s triggered by an expanding financial sector and the presence of foreign investors. In 1995, Karachi stock market Index soared to new heights, crossing the 2500 mark. All roads then led to stock market with common men lining up to purchase stocks they knew nothing or very little about. Those were the days of free rise and free fall - the lower and upper circuit breakers not being in vogue.
All of a sudden the market took a plunge and lost about 600-700 points. The highly inflated prices were cut to size and so was the inflated exuberance of uninformed common investors. Millions of common person's money found its way to the pockets of the con men. No arrests, no FIRs. That is the beauty of white-collar crime. After the financial companies and co-operatives scams, the stock market robbery was another feather in the caps of the con men. As in the cases of financial companies and co-operatives scams, State Bank was once again found lacking in initiative and control.
In 1998, Pakistan went for the nuclear blast announcing its gate crashing into the World Nuclear Club. The stock market imploded with ear-splitting silence. The index came down to 760 points. The share prices were at their rock bottom. Name any blue chip and you get it dozen a dime. In real sense, it was the buying time as they say "buy when there is blood on the streets; even if it is your own blood".
When the nuclear dust settled down, there were signs of recovery but the then government indiscreetly opted for action against Hub Power Company and the stock market went into tailspin again. As usual, the common investors lost a fortune. Who gained how much, is still shrouded in mystery. Comes 9/11 in 2001. Thanks to the upper and lower circuit introduction, the market was saved of a bigger crash. Later on, Pakistan government's decision to side with the US in its war on terror resulted in a steady recovery. Another development was that the country flooded with heavy inflow of foreign remittances. This money got its way into the stock market. The State Bank indulged in the spree of discount rate cuts, bringing the rate down from 13 to 9 percent.
In the wake of these developments, two new speculative forces emerged: the corporate sector which got cheap credit from banks and diverted it to the stock market, and the banking sector itself. The excessive liquidity of banks resulting from increased flow of remittances forced its way into the stock market. A mass hysteria was created and the equity prices started to soar in total disregard of their fair economic value. Every day dawned with fresh news of foreign investment. In January 2005, the Index was already high at 6747. In February 2005, it soared to 8260, and by the beginning of March, it had gone further up. Then came the "ides of March" and the index started crashing down. The high and low of 2005 KSE index were 10300 and 6400. The drop of 3900 points in a single year was the highest in the known history of KSE. The saddest part of the episode was that the middle class was hit most hard. In the aftermath of steeply falling profit rates on government securities, people disinvested their savings from NSS and, finding no other suitable venue of investment, diverted their life long monetary assets to the stock markets.
The year 2007 - politically a turbulent year - saw the stock market creating new records of excellence.
On December 26, KSE-100 index peaked to the year's highest level of 14815. The year 2008 saw the index cross the formidable barrier of 15000. This was no mean achievement, at least from statistical point of view. The political change in 2008 culminated in the worst stock market crisis in Pakistan's history. The KSE-100 index came down from 15,538 points in April 2008 to 5,385 points in February 2009, wiping off more than Rs3 trillion of market capitalization. With no substantial improvement on the economic front, the reversal of index to the current level of 12,000 points raises genuine doubts in the minds of analysts.
DEVELOPMENTS ON THE STOCK MARKET LAST FIVE YEARS
PARTICULARS DEC 2007 DEC 2008 DEC 2009 DEC 2010 APR 27 2011 CHANGE FROM 2007 - 9 (IN %) KSE-100 Index 14,076 5,865 9,387 12,022 11,947 (15) Market Capitalization (Rs. billion) 4,330 1,859 2,706 3,269 3,178 (27) No of listed companies 654 653 651 644 638 (2) Listed capital (Rs. billion) 671 750 814 919 925 38 New companies listed 14 10 4 6 - - New debt instruments listed 3 7 1 4 2 - Av daily turnover (million shares) 268 147 180 133 121 (55) Av. Daily turnover (Rs. million) 25,263 14,228 7,451 4,405 4,904 (81)
The myth of the current, unrealistically high KSE-100 index is exploded when tested on a few parameters. Comparing Dec 2007 figures with the current statistics, the index is down by just 15 percent whereas the market capitalization is down by 27 percent. Listing of new companies shows a negative growth. Increase in the amount of listed capital owes everything to bonus and right issues by the existing companies. As against a 15 percent drop in the index, the daily turnover dropped by 55 percent in scrip terms and by a whopping 81 percent in Rupee terms. The rosy index is hiding a lot of economic frailties.