Term Paper on

Bangladesh Capital Market: Operation, Success and Failure

For the course –

Financial Management (MKT 506)

Submitted by:

1) MD. ENAMUL HUQUE (41323002)

2) MD. MASUM SARDER (41323033)

3) IMRAN AHAMMED KHAN (41120010)

4) MD. NAHID AKHTER (41221007)

5) KAZI FOYEZ AHMED (41323051)

6) OMAR AL FARUQUE (41222035)

Submitted to:

Shaheen Ahmed Chowdhury

Assistant Professor,

Department of Marketing,

Dhaka University.

December 2013

Bangladesh Capital Market: Operation, Success and FailureIntroduction:

Capital market provides long term funds to entrepreneurs. A capital market is a market

for both debt and equity securities, where business enterprises and governments can

raise long-term funds. A stock exchange is a body that provides services to stock

brokers and traders to trade stocks, bonds, and other securities. Bangladesh has two

Stock Exchanges:, Dhaka Stock Exchange (DSE) and Chittagong Stock Exchange

(CSE).

The Dhaka Stock Exchange (DSE) is registered as a Public Limited Company and its

activities are regulated by its Articles of Association rules & regulations and by-laws

along with the Securities and Exchange Ordinance - 1969, Companies Act - 1994 &

Securities & Exchange Commission Act - 1993.

The Chittagong Stock Exchange (CSE) began its journey in 10th October of 1995 from

Chittagong City through the cry-out trading system with the promise to create a state-of-

the art bourse in the country.

Operation:

A Stock Exchange:

establishes listing requirements

approves, suspends or removes listing privileges of companies

monitors listed companies in compliance with legal regulatory provisions

Regulation of Stock Exchanges:

The Bangladesh Securities and Exchange Commission (BSEC) established on 8th June, 1993 atcs as the regulatory body of the country’s capital market through enactment of the Securities and Exchange Commission Act 1993.

Mission of the BSEC is to:

Protect the interests of securities investors. 

Develop and maintain fair, transparent and efficient securities markets. 

Ensure proper issuance of securities and compliance with securities laws.

 

The Commission's main functions are:

Regulating the business of the Stock Exchanges or any other securities market.

Registering and regulating the business of stock-brokers, sub-brokers, share transfer agents, merchant bankers and managers of   issues, trustee of trust deeds, registrar of an issue, underwriters, portfolio managers, investment advisers and other intermediaries in the securities market

Registering, monitoring and regulating of collective investment scheme including all forms of mutual funds.

Monitoring and regulating all authorized self regulatory organizations in the securities market.

Prohibiting fraudulent and unfair trade practices relating to securities trading in any securities market.

Promoting investors’ education and providing training for intermediaries of the securities market.

Prohibiting insider trading in securities. 

Regulating the substantial acquisition of shares and take-over of companies.

Undertaking investigation and inspection, inquiries and audit of any issuer or dealer of securities, the Stock Exchanges and   intermediaries and any self regulatory organization in the securities market.

Conducting research and publishing information.

 

Membership of Stock Exchanges:

Nobody can participate in the stock trading without being a member of stock exchange. There

are two types of member-

a) Dealer: They can act as principal any buy for their own accounts and sell securities

from their own inventories.

b) Broker: They act as agents of others and receive a commission from their clients.

They have no rights to buy or sell from their own inventories.

Functions of a Stock Exchange:

The major functions of a Stock Exchange are:

Listing the companies.

Providing the computer based automated trading system of the listed securities.

Settlement of trading.

Gifting of share / granting approval to the transaction/transfer of share outside the trading system of the exchange.

Market administration & control

Market surveillance to prevent market abuse i.e. abnormal price/volume movement, artificial transactions, false or misleading impressions, insider trading, etc.

Publication of monthly, quarterly and yearly review and reports.

Monitoring the activities of listed companies.

Investors grievance Cell (Disposal of complaint bye laws 1997).

Administration of Investors Protection Fund (As per Investor protection Fund Regulations 1999) for the protection of the investors of a defaulting member of the Stock Exchange.

Announcement of price sensitive or other information about listed companies.

Listing:

Every company must be listed in the Stock market for working thereon and they have to fulfill various formalities. The Listing and Membership department deals with the various formalities of listing and membership with DSE. Formalities related with the enlistment of a company and membership and discussed in below.

If the companies willing to expand their market may apply for listing with the DSE, according to the manner prescribed in the Listing Regulations. ‘Listing Company’ means a Company or a body corporate or corporation, which has been listed in accordance with the regulations, and whose securities are listed and include provisionally listed companies. Unless the company or the securities have been listed and permission for such dealing has been granted, no dealings in securities of a company shall be allowed.Eligibility for Listing

The Company has to be a Registered Public Ltd. that must be incorporated in Bangladesh under the Companies Act.1994 with the office of the Registered of Joint Stock Companies and Firms. Shares to a listed company can be issued through primary market or secondary market.Application of listing

Application for listing in the stock exchange should be made as per Form 1, under Section (9) of the Securities and Exchange Ordinance -1969 Section 140 of the Companies Act. 1994, within 10 days from the date of publish of the Company’s prospers. The stock exchange shall grant permission within a maximum period of 3 months from the date of receipt of listing application. In case, the permission is refused, the reason thereof will be communicated to the applicant and also to the Securities & Exchange Commission within 2 weeks of the decision. If reused, the applicant may move a fresh application after six months from the date of such refusal unless the Board otherwise decides.

Documents to be submitted for listing:

At the time of applying for the listing, the following documents to be submitted:

1. In case of Participatory capital, a copy of the trust deed.

2. Copies of audited accounts for the last 5 completed years or a shorted

a. Number of years if the company has been in existence only for such

b. Shorted period.

3. A Memorandum and Articles of Association.

4. Brief history of the company since incorporation giving details of its

5. Activities including any re-organization, changes in its capital structure

6. And borrowings.

7. Copy of Agreements of other documents relating to arrangements with

8. Or between Vendors, Promoters, Underwriters, Brokers.

9. Certified copies of agreement with Managing Agent, Selling Agent,

10. Managing Director and Technical Director.

11. A statement containing Particulars of material contracts.

12. Certified copies of Agreement with BSB, BSRS, ICB and any other

13. Financial institutions.

14. Form 2 as printed in the listing regulations.

15. A deed of Unconditional Undertaking to abide by the listing regulations of the DSE.

Application for Membership:

As per company resolution, to get the membership in DSE, it is necessary to form a limited company and one director will have to be selected as the representative for dealing with the stock exchange. An application to be submitted as per “Form-Ka’ along with the following documents:-

• Memorandum of Association, Articles of Association of the company.

• Tax clearance certificate.

• Letter regarding permission for on-line trading.

• Deed of Declaration as per clause 5 (b) of General Rules and regulations of DSE.

• Two copies stamp size recent photograph.

Market Surveillance:

Dhaka stock exchange has its own surveillance system to control and monitor the market activities particularly regarding the scrip traded. Surveillance Department keeps a close watch on price-movement of scrip; detect market manipulation and monitor abnormal prices and volumes, which are not consistent with the normal trading system. The activities of this department are mentioned here in below-Circuit Breaker Control

Circuit breaker is a common and widely used system across the Stock Exchange worldwide to control the abnormal fluctuations of share prices. The limit of Circuit Breaker at Dhaka stock

Exchange is mentioned in this report while discussion the activities of market Operation Department. Presently, the following rules govern the Circuit Breaker percentage value or absolute circuit breaker value: In case of disclosure of news in any scrip, the circuit breaker percentage will be changed to a Market Operations specified value and will persist at this value for a specified number of days. For new scrip, for specified number of days after the first trading day, the percentage is a Market Operations specified value. Till the first trading day for that scrip, there will be no circuit breaker percentage. In case of book closure, the Exchange will provide an absolute value of circuit breaker, which will be used for a Market Operation specified number of days, following which it will revert back to the old value of the circuit breaker.

Suspension of Scrip:

When price rigging can’t be controlled even after applying the existing surveillance measures or if any serious irregularities such as large quantity of bad deliveries, circulation of fake share certificates in the market etc. is noticed in the market Exchange can suspend trading of those scrip for a period depending on the situation.

High Turnover:

Surveillance Department of the Exchange on a day-to-day basis carries out a thorough study of the trading pattern of the top 10 scripts by turnover. Such analysis covers the price, turnover volume and value activity by various members in each of the scripts and also the fundamentals of the Company.

Monitoring newly listed shares:

As per the instruction of SEC circuit breaker is not applied to the newly listed shares for the first five market days. Trading pattern in this five days of the newly listed shares are analyzed by this department to detect whether the members have entered into any manipulation or circular trades to artificially prop-up or prop-down the prices. If any certain irregularities are observed, the Disciplinary Committee takes action against such member.

Suspension of Traders/Brokers

Depending on seriousness of irregularity noticed in a member’s trading, his/her trading terminal is suspended until such time the issue is resolved.

The other activities of this department are:

• Watching net high-low position.

• Taking Disciplinary Action.

• Investigation into specific deals of Broker/Dealers.

The surveillance functions are conducted through the surveillance module of the computer system. This system usually runs manually. The surveillance department through its wide information source carries out this function.

Inspection and Auditing:

There are two types of inspection likely –

1 Regular Inspection – In a regular inspection, the inspectors check whether the brokers are maintaining all the books of accounts.

2 Spot or Special Inspection – In this sort of inspection the inspectors make a surprise visit or it is done on a particular item.

We can write down the functions of this department as follows –

1. Checking whether the brokers are maintaining rules and regulations under SEC, company act, and income tax law.

2. Making physical visit to the broker houses as per the command of SEC or Surveillance department of DSE.

3. Scrutinizing the draft prospectus of IPO, and commenting over that. The SEC decides whether to allow the IPO on the basis of the comment made. Hereby the following points are considered for assessing the draft prospectus of IPO –

Automated Clearing and Settlement System (CNS):

The Automated Clearing and Settlement System (CNS) is developed to automate all post trade activities regarding clearing and settlement. Its main stakeholders are Brokerage houses, CDBL, Clearing Banks and DSE Finance Division. Major activities of the system are as below;

Clearing: In clearing process DSE make payment by credit instruction and deliver share through CDBL clearing schedule to buying broker.

Settlement: In settlement process DSE receives all charges, receivable amount from selling brokers and earmark selling shares in selling broker clearing account through CDBL settlement schedule.

Regulation 4 of the Settlement of Stock Exchange Transactions Regulation 1998 has been given effect time to time.

Central Depository System (CDS) :

Central Depository Bangladesh Limited(CDBL) was incorporated as a public limited company on August 2000 to operate and maintain the Central Depository System(CDS) of Electronic Book Entry, recording and maintaining securities accounts and registering transfer of securities; changing the ownership without any physical movement or endorsement of certificates and execution of transfer instruments. Bangladesh Securities and Exchange Commission has issued a Certificate to CDBL on December 23, 2003 for starting depository business as a depository.

A depository is like a bank for shares instead of money. Instead of holding shares in the form of certificates, investors have accounts in the depository and are able to move securities and settle stock exchange transactions by an electronic update of their accounts.

The core service of a depository is the efficient delivery, settlement and transfer of securities through a computerized book entry system.

Book closure / Record Date:

While a company a dividend, right/ bonus shares or intends to hold any AGM/ EGM; it declares a book legislature closer provider/ Record Date to register the name of shareholders.

Only shareholders whose names appear on the register after the book closure/ Record Date are eligible to attend in the AGM/ EGM and also to receive dividends & bonus shares and entitlement to right shares, if any.

Circuit Breaker:

Circuit Breaker is the maximum permissible deviation of the price (specified as percentage) of the incoming order from the Circuit Breaker Base Price for that instrument. Orders violating circuit breaker will result rejection of the order. It is a good tool to counter price manipulation.

Success:

Following are some success of stock exchanges of Bangladesh:

1) Market capitalization:

Our stock exchanges has helped hundreds of companies to expand their business

through fund raising from the investors listed in the stock exchanges. This has helped

our economy a lot. This is the main intended purpose of establishing any stock

exchange. Our stock exchanges are performing this function well.

2) Demutualization:

The Dhaka and Chittagong stock exchanges have turned into demutualised exchanges

as the country’s twin bourses get certificates from the Registrar of the Joint Stock

Companies and Firms (RJSC) on Thursday, 21 November 2013. The DSE and CSE

already have completed their EGMs on November 2 and October 25 respectively. The

full demutualization process is still ongoing which will be fully achieved through the

election of new members for the Board of Directors. As per the demutualisation act,

both the stock exchanges have to hold election within 90 days of getting certificates

from the Joint Stock Companies and Firms (RJSC) to elect 13 member boards. Of the

13-member board with 3-year term, seven directors will be independent, four from

shareholders and one from strategic shareholder. In addition, the CEO of a stock

exchange will act as an ex-officio director having voting rights. Corporate governance is

a very important issue for any capital market. Demutualisation will help to ensure

corporate governance in our stock exchanges.

3) Introducing uniform face-value of all companies:

Non-uniform face value of the securities creates confusion and mis-understanding

among the investors. Dhaka Stock Exchange had non-uniform face value for the

securities and bonds. Now DSE has successfully made uniform face value for all the

securities available on the market. There are several theories that explain the reasons

of stock split by companies. The most common reasons are to achieve an optimal price

range for liquidity, to achieve an optimal tick size and to signal the confidence of

managements’ in the future stock price. Various studies on stock split and market

behavior shows that there are stock price might lead increase in stock price and trade

volume in the short term (Aduda and Caroline. 2010).

In Dhaka Stock Exchange, the price of small face value (Tk.10) securities were

relatively higher then big face value (Tk. 100) securities where other things remain the

same. By May 2010, SEC instructed all companies to convert the face value of

securities to Tk.10 from various per values that increased price level of Tk. 10 share

substantially that inflated both the individual stock price and indices. This transition has

been completed successfully.

4) Strengthening the Market Surveillance Systems

Both the stock exchanges have introduced powerful automated market surveillance

system which has identified many abnormal market behaviors in the recent past and

has protected the interest of the small investors providing timely warning. For ensuring

investors’ protection and upholding transparency in the capital market, the SEC

performs surveillance function through Online Surveillance System of Stock Exchanges.

The stock exchanges are primary regulators for detection of market manipulation, price

rigging and other regulatory breaches. SEC keeps constant vigilance on the activities of

stock exchanges to ensure effective surveillance. The Surveillance Department of SEC

uses both online and off-line surveillance systems to find out violation of securities

related laws in securities trading and also to find out whether irregularities have taken

place or any abnormalities exist in securities transactions. As part of online surveillance,

the SEC officials watch the daily securities transactions through non-trading software

and surveillance software and prepare report containing summary of daily securities

transactions and abnormal trading, if any. On the other hand, as part of off-line

surveillance, the surveillance officials of SEC use the SEC’s own software to analyze

necessary post trading information after collection. If detailed investigation is needed

after analysis then proposal is placed before the SEC to form an enquiry committee. If

any violation of securities laws is found by the enquiry committee then the matter is

forwarded to the Enforcement Department of SEC for necessary legal action.

Failures:

1) Capital Market crash in 2011:

Bangladesh stock market experienced landslide fall in the first quarter of 2011. This can be seen clearly from DSE General Index graph:

Ibrahim Khaled committee identified the following broad factors that caused the capital market disaster:

a) Primary Issue related Problems:

Direct listing in Primary issue

Abuse of Book Building Method of IPO

High premium for stock listing

Illegal Private placement market

Asset Revaluation of Companies before listing to charge higher premium.

b) Secondary market related problems:

Circular trading in Secondary market

Block trading

Stock Price Manipulation through Omnibus Accounts

c) Irregularities in issuance of Right Share/Preference Share/Repeat IPO etc.

d) Recommendation of Stock Dividend by companies against unrealized Profits

e) Regulatory Failure:

Inconsistency in regulatory activities

Supporting and legalization of unethical activities of big Investors

Irresponsible behavior/weakness in many areas

Formulating wrong policies which helped market players (manipulators)

Lack of Due Diligence

Lack of co-ordination between SEC and Stock exchanges

Allowing Financial Institutions to invest in capital market aggressively

SEC failed to take measure against manipulation of financial statements

2) Failure to establish a Commodity Exchange:

SEC, in its Annual Repot 2011-2012, expressed its intention to introduce commodity

exchange in our capital market. A commodities exchange is an exchange where various

commodities and derivatives products are traded. This protects the farmer from price

drops and the buyer from price rises. A commodity exchange can help our agricultural

sector a lot. But SEC has failed to introduce a commodity exchange yet.

3) Failure to establish a separate tribunal:

Our stock market has experienced two major crushes so far: first time during 1996 and

second time during 2011. Each time investigations have revealed some major

irregularities and manipulations which contributed to such catastrophic market fall.

Unfortunately the SEC has filed to punish anyone through legal procedures for their

misdeeds. SEC set goal to establish a separate tribunal for the capital market to prevent

future manipulations but this goal was not achieved yet.

Conclusion:

We believe that Bangladesh Capital Market is capable enough to supply significant

amount of necessary capital for the public and private sectors. To ensure this all the

stakeholders namely merchant banks, broker-dealers, asset management companies,

auditors, credit rating agencies, private entrepreneurs, state owned enterprises, stock

exchanges and regulators have to play their roles more professionally.

References:

http://cse.com.bd/

http://en.wikipedia.org/wiki/Dhaka_Stock_Exchange

http://www.secbd.org/annual.html

http://www.secbd.org/quater.html

http://www.dhakatribune.com/stock-market/2013/nov/22/dse-cse-demutualised

http://bdstock.com/

http://www.stockbangladesh.com/

http://www.dsebd.org/pdf/DSEATS.pdf

http://www.dsebd.org/settle.php

http://www.dsebd.org/ilf.php