The 8th ACG Cross Training Seminar Merits & De-Merits of Direct & In-Direct Accounts in the Pakistan Capital Market by: Shabnam Fahim Syed Faisal Hashmi.

The 8th ACG Cross Training SeminarThe 8th ACG Cross Training Seminar

Merits & De-Merits ofMerits & De-Merits ofDirect & In-Direct AccountsDirect & In-Direct Accounts

in the Pakistan Capital Marketin the Pakistan Capital Market

by:by:

Shabnam FahimShabnam Fahim

Syed Faisal HashmiSyed Faisal Hashmi

Shariq NaseemShariq Naseem

Agenda

Pakistan Capital Markets.Pakistan Capital Markets.

Central Depository Company of PakistanCentral Depository Company of Pakistan

Merits and Demerits of Direct and Indirect Merits and Demerits of Direct and Indirect account Methodaccount Method

Pakistani Capital Markets

Market regulatorsMarket regulators

Stock ExchangesStock Exchanges

Instruments TradedInstruments Traded

Trading EnvironmentTrading Environment

Clearing and SettlementClearing and Settlement

Past Brief and Current SituationPast Brief and Current Situation

Market Regulators

Securities & Exchange Commission of Securities & Exchange Commission of Pakistan (SECP)Pakistan (SECP)Regulating stock exchanges, NBFCs, CDC and Regulating stock exchanges, NBFCs, CDC and

Corporate Sector Corporate Sector Functional Responsibility: framing of rules and Functional Responsibility: framing of rules and

regulationsregulationsRecent developments, REIT, VPS, NBFC rules, debt Recent developments, REIT, VPS, NBFC rules, debt

marketmarket

State Bank of Pakistan (SBP)State Bank of Pakistan (SBP)Regulating banking institutionsRegulating banking institutionsPolicy measuresPolicy measures

MonetaryMonetary CreditCredit Foreign exchange mechanismForeign exchange mechanism

Stock Exchanges

Three Stock Exchanges in Pakistan:Three Stock Exchanges in Pakistan:The Karachi Stock Exchange The Karachi Stock Exchange Lahore Stock Exchange Lahore Stock Exchange Islamabad Stock Exchange Islamabad Stock Exchange

The Stock Exchanges:The Stock Exchanges:Most active and Liquid- KSE Most active and Liquid- KSE Self regulatory body Self regulatory body

Instruments Traded

EquityEquityOrdinary SharesOrdinary SharesPreference SharesPreference Shares

BondsBonds TFCs TFCs Other Debt Instruments- TBs, PIBsOther Debt Instruments- TBs, PIBs

DerivativesDerivatives Stock Exchange offers equity futuresStock Exchange offers equity futures Monthly contract- overlap of at least 2 trading days Monthly contract- overlap of at least 2 trading days

b/w contractsb/w contracts

The Trading EnvironmentEquitiesEquities

All Stock exchanges have own trading platforms All Stock exchanges have own trading platforms Automated Trading System:Automated Trading System:

Processing based on bids & offers and Processing based on bids & offers and Intimation of trades executedIntimation of trades executed

Circuit Breakers- 5%Circuit Breakers- 5%

Bond MarketBond Market Primary MarketPrimary Market

PIBs Auctioned monthly & TBs fortnightlyPIBs Auctioned monthly & TBs fortnightly TFCs by Pakistani CompaniesTFCs by Pakistani Companies

Secondary MarketSecondary Market PIBs and TBs traded freelyPIBs and TBs traded freely Investors hold TFCs until maturity- low liquidity

Clearing and Settlement

ClearingClearingGovernment bonds through SBPGovernment bonds through SBPOthers through National Clearing CorporationOthers through National Clearing Corporation

Scrip lessScrip lessSettlement System T+3Settlement System T+3Payment released-broker ascertains stock transfer- CDC A/cPayment released-broker ascertains stock transfer- CDC A/c

OTCOTCNo formal organized marketNo formal organized market

PhysicalPhysicalLess than 1% SettlementLess than 1% Settlement

KSE Current Situation Pakistan Included in MSCI Emerging Market index- May 2005 Pakistan Included in MSCI Emerging Market index- May 2005 World Bank-Investment report 2005- one of top ten reformer countriesWorld Bank-Investment report 2005- one of top ten reformer countries Market capitalization- $ 57 billion with 663 securities (April 17, 06) Market capitalization- $ 57 billion with 663 securities (April 17, 06) 44thth year- one of the best performing markets- Business Week- US year- one of the best performing markets- Business Week- US

newspaper, USA todaynewspaper, USA today Past four years compound annual growth rate-56% Past four years compound annual growth rate-56% KSE100 share index- increased 53.6% July 05 - May 06 - 3KSE100 share index- increased 53.6% July 05 - May 06 - 3rdrd highest highest Capital markets exceptional performanceCapital markets exceptional performance– – ReasonsReasons

Pakistan Economic Revival- GDP growth- 2002 onwardsPakistan Economic Revival- GDP growth- 2002 onwards Consistent and transparent economic policiesConsistent and transparent economic policies Successful privatisation process-PTCL/National refinery etcSuccessful privatisation process-PTCL/National refinery etc Impressive Corporate ResultsImpressive Corporate Results Sound Monetary Polices- SBP, & Capital Market reforms- SECPSound Monetary Polices- SBP, & Capital Market reforms- SECP

… … the Country’s only Securities’ the Country’s only Securities’ DepositoryDepository

CDC ...CDC ...

Incorporated in 1993Incorporated in 1993

To manage and operate the Central Depository To manage and operate the Central Depository System (CDS)System (CDS)

Live Operations in 1997Live Operations in 1997

Central Depository Company (CDC)

Our services

Depository Services Depository Services

Trustee and Custodial Services Trustee and Custodial Services

Registrar & Transfer Agent (in near future)Registrar & Transfer Agent (in near future)

Legal Framework

Companies OrdinanceCompanies Ordinance

Central Depository Company Regulations Central Depository Company Regulations

Central Depositories ActCentral Depositories Act

Listing RegulationsListing Regulations

Implementation of National Clearing & Settlement Implementation of National Clearing & Settlement SystemSystem

Launch of trustee and custodial services Launch of trustee and custodial services Launch of Investor Account ServicesLaunch of Investor Account Services Launch of enhanced version of CDS (Launch of enhanced version of CDS (eeCDS)CDS) Induction of Open-end Mutual Funds in CDSInduction of Open-end Mutual Funds in CDS Launch of CDC call centreLaunch of CDC call centre CDC AccessCDC Access

Achievements

Securities handled through CDS Ordinary SharesOrdinary Shares

Preference shares Preference shares

Term Finance CertificatesTerm Finance CertificatesCertificates of Open-ended mutual Funds Certificates of Open-ended mutual Funds

Certificates of Closed-end FundsCertificates of Closed-end Funds

Modaraba CertificatesModaraba Certificates

Transactions Supported through CDS

Deposit of Securities Deposit of Securities

Delivery (Transfer) of SecuritiesDelivery (Transfer) of Securities

Withdrawal of SecuritiesWithdrawal of Securities

Pledge Pledge

Corporate Action Corporate Action

Merger / De-mergerMerger / De-merger

Consolidation /SplitConsolidation /Split

Conversion Conversion

IPOIPO

Issuance and Redemption of Open End Mutual Fund Units Issuance and Redemption of Open End Mutual Fund Units

CDS Elements

Issuers Account Holder Pledgee

Account Holder Participant

CDS Elements

Account HoldersAccount Holders

Account HoldersAccount Holders

Account holders have direct access to the CDS & are allowed to keep their beneficially owned securities in CDS..

ParticipantsParticipants

Participants also have direct access to CDS and are allowed to provide custody services to their clients in addition to keeping their beneficially owned securities.

Account Categories

Main Account – Transitory Account Main Account – Transitory Account

House Account – Account Holder’s own accountHouse Account – Account Holder’s own account

Sub Account – Client Account Sub Account – Client Account

IAS Account – Client AccountIAS Account – Client Account

Account HolderAccount Holder

Central Depository System (CDS)Central Depository System (CDS)

Account HolderAccount Holder

Main A/CMain A/C

House A/CHouse A/C

Main A/CMain A/C

House A/CHouse A/C

Sub-A/CSub-A/C

Investor A/C.Investor A/C.

ParticipantsParticipants

Account Structure

Admission Criteria

Direct Account

Member Stock Exchanges

Financial Institutions

Qualified investors that meet: Technical requirementsTechnical requirements Business Integrity Business Integrity

requirementsrequirements Capacity requirements Capacity requirements having Data Processing & having Data Processing &

Operational Capabilities Operational Capabilities

Indirect Account

Any person or corporate entity.Any person or corporate entity.

Merits & De-Merits

of

Direct & In-Direct Accounts

Benchmarking

Forthcoming slides would provide you the behavior of Direct & In-Forthcoming slides would provide you the behavior of Direct & In-direct Accounts, taking different important parameters of Capital direct Accounts, taking different important parameters of Capital Markets as the Yardstick. Markets as the Yardstick.

We would analyze the merits & de-merits of both the type of We would analyze the merits & de-merits of both the type of accounts, by placing each of them individually, in different dynamic accounts, by placing each of them individually, in different dynamic Capital Market motions. Capital Market motions.

This exercise would allow us to determine the effectiveness of each This exercise would allow us to determine the effectiveness of each type of account in a more practical & realistic milieu.type of account in a more practical & realistic milieu.

Cost

Direct

Definitely DAs cost more than Definitely DAs cost more than IDAs. A significant difference is of IDAs. A significant difference is of “Security Deposit”“Security Deposit” which is a which is a refundable amount and required at refundable amount and required at the time of joining the CDC as a the time of joining the CDC as a DA. Another additional cost is DA. Another additional cost is pertaining to the pertaining to the “CDS “CDS Connection Fee”.Connection Fee”.

In-Direct

Comparably IDAs do prove cost-Comparably IDAs do prove cost-effective than their adversary, effective than their adversary, however we might find cases however we might find cases where Custodians charge and an where Custodians charge and an additional cost as additional cost as “processing “processing and/or convenience charges”.and/or convenience charges”.

Efficiency

Direct

Capital Markets, anywhere in the Capital Markets, anywhere in the world, are dynamic & momentary in world, are dynamic & momentary in nature. DAs always prove more nature. DAs always prove more fruitful in such dynamic environments fruitful in such dynamic environments as you have as you have more control and less more control and less dependency.dependency.

In-Direct

In the dynamic Capital Markets, In the dynamic Capital Markets, dependency Is always treated as dependency Is always treated as a Shortcoming. No matter how a Shortcoming. No matter how efficient your Custodian is, you efficient your Custodian is, you remain remain dependentdependent on them and on them and dependency is not advisable. dependency is not advisable.

Confidentiality

Direct

Letting your cards known to others Letting your cards known to others is treated as a Cardinal Sin in is treated as a Cardinal Sin in Capital Markets. DAs always Capital Markets. DAs always

protect your protect your confidentialityconfidentiality and and ensure that your portfolio remains ensure that your portfolio remains

known to you ONLY.known to you ONLY.

In-Direct

Adding a third party in Adding a third party in sharingsharing your confidential information would your confidential information would

always add risk.always add risk.

Clearing

.Direct

DAs allows investors to reach the DAs allows investors to reach the 1st layer of Clearing & 1st layer of Clearing &

settlementsettlement in some cases like via in some cases like via IDS. In such cases sometimes you IDS. In such cases sometimes you may also get the chance of dealing may also get the chance of dealing

with the with the Virgin Transactions.Virgin Transactions.

In-Direct

Clearing through IDAs always keep Clearing through IDAs always keep you on the you on the backseatbackseat. You may not . You may not be able to avail the advantages of be able to avail the advantages of reaching the 1reaching the 1stst layer of clearing & layer of clearing &

SettlementSettlement

Settlement

Direct

Where reaching to the 1Where reaching to the 1stst level of level of Clearing & settlement can be Clearing & settlement can be fruitful in many ways like getting fruitful in many ways like getting access to the virgin transactions, access to the virgin transactions, sometimes (specially in cases of sometimes (specially in cases of Failed settlement from one of the Failed settlement from one of the involved parties) you may place involved parties) you may place yourself in a very yourself in a very Risky situation.Risky situation.

In-Direct

IDAs always remain away from IDAs always remain away from settlement cycle means also settlement cycle means also remains remains away from the risk & away from the risk & rewardsrewards associated to it. associated to it.

Compliance & Audit

Direct

DAs are subject to number of DAs are subject to number of regulatory requirements. It also regulatory requirements. It also requires requires compliancecompliance to number of to number of regulatory frameworks including regulatory frameworks including CDC Regulations. DAs are also CDC Regulations. DAs are also exposed to the CDC Participant exposed to the CDC Participant

Audit requirementsAudit requirements..

In-Direct

IDAs only involve IDAs only involve minimal levelminimal level of of Regulatory and compliance Regulatory and compliance related requirements.related requirements.

Risk Management & Security

Direct

DAs are always more DAs are always more secure and Risk secure and Risk mitigatingmitigating in nature. Having in nature. Having your securities under your your securities under your own control is always own control is always advisable.advisable.

In-Direct

IDAs are more IDAs are more prone to prone to riskrisk then their counterparts. then their counterparts.

Information

Direct

In CDC, DAs have an edge In CDC, DAs have an edge mainly due to two reasonsmainly due to two reasons::

Access to complete set of Access to complete set of

CDS reports.CDS reports. E-mail Integration process.E-mail Integration process.

In-Direct

Although IDAs do not have Although IDAs do not have the access to the two main the access to the two main

sources of information which sources of information which DAs have, but having an IDA DAs have, but having an IDA

with with “Global Custodian”“Global Custodian”

may also be very informative.may also be very informative.

Global Operations

Direct

Investors having Global Investors having Global Operations may find it Operations may find it

difficult to maintain Direct difficult to maintain Direct Depository Account in Depository Account in every every

locationlocation they operate. they operate.

In-Direct

IDA’s in this case have a IDA’s in this case have a clear edge over their rival, clear edge over their rival, specially in case of “Global specially in case of “Global Custodians”, you only have Custodians”, you only have to deal with a to deal with a single partysingle party for your complete Global for your complete Global

Operations. Operations.

Maintenance & Convenience

Direct

DAs are definitely convenient DAs are definitely convenient in cases where you have huge in cases where you have huge Operations and you do not Operations and you do not want to involve in lot of want to involve in lot of paper paper transactionstransactions

In-Direct

IDA’s are more convenient IDA’s are more convenient for smaller investors. for smaller investors. However, they also prove However, they also prove very convenient in cases very convenient in cases like like “Global Operations”“Global Operations” and cases where the and cases where the investor need to maintain investor need to maintain numerous accounts.numerous accounts.

Registration

Direct

There are There are minimalminimal chances chances of Registration risk in DAs as of Registration risk in DAs as even in cases of leaving even in cases of leaving securities in main account securities in main account do not have any Registration do not have any Registration threat.threat.

In-Direct

IDA’s do have a IDA’s do have a imminent imminent registration threatregistration threat, leaving , leaving shares in Main account of shares in Main account of Custodian, because of any Custodian, because of any reason, may create a reason, may create a serious Registration threat.serious Registration threat.

Entitlements

Direct

Dealing with entitlements Dealing with entitlements and other corporate actions and other corporate actions is is safersafer with DAs. You with DAs. You remain on the top as far as remain on the top as far as the announcements are the announcements are concern.concern.

In-Direct

In IDAs, you add an In IDAs, you add an additional legadditional leg to your to your entitlement cycle which is entitlement cycle which is not advisable.not advisable.

Value Added Services

Direct

IDA’s are IDA’s are onlyonly exposed to exposed to the value added services the value added services extended by the depository extended by the depository itself.itself.

In-Direct

IDA’s have an edge IDA’s have an edge specially in cases where specially in cases where your account is with a your account is with a “Global Custodian”“Global Custodian” like like Cash Management, proxy Cash Management, proxy services, etc.services, etc.

Thank You!Thank You!

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