36.

Capital Market Development

36.1 Role of Capital Market in Development Planning

In the contemporary global scenario, a large part of the responsibility of economic

development has been shifted to corporate sector from the governmental agencies. The
entire structure and growth of the corporate sector depends on the transparent and prudent
financial system. An incorrect judgment regarding the financial patterns in corporate sector
may be a cause of heavy distortion in the society by means of volatilities in the stock
markets, employment opportunities, distribution of income, and demand-supply gap in the
community markets. In the present economic structure, overall economic growth depends
on the performance of corporate sector, while the financial resources of corporate sector are
determined by the performance, gravity and strength of the financial markets in a country.
As a leading role is envisaged for private sector, financial policies have to be geared towards
capital market development, besides the institutionalization of an effective regulatory
framework. Capital market is a sub-set of financial markets, which provides a linkage
between the users and suppliers of the funds for long-term investment. A capital market
mainly consists of stock (equity) and bonds markets.

For macro economic management and development planning, an efficient stock

market can play at least the following three pivotal roles:

i) It can reflect the levels of overall and as well sectoral development, by means
of the market indices and valuation ratios
ii) It can mobilize the funds from the domestic and external sources to the
priority sectors of the economy
iii) It provides the indications, guidelines and information to the investors for
their investment decision-making. An efficient stock market develops a path
for smooth, simple and transparent opportunities of investment without
undue risk and gambling factors

A stock exchange is a place to regulate and perform the activities of stock (equity)
market. It is considered as a “barometer” of the economy, because of its immediate and
visible reaction on the news and transactions of economic importance. Capital market and
monetary policy are closely interrelated as they are determined jointly by the supply of
money, interest rates and liquidity position. One cannot ignore the monetary side effects in
survey of capital market behaviour and forecasting. The linkage between the macro
economic targets and financial and material growth in the different sectors of stock exchange
is indispensable for a balanced economic growth. Harmonization between the rules and
regulations developed by the Securities and Exchange Commission of Pakistan (SECP), the
State Bank of Pakistan (SBP) and the Central Board of Revenue (CBR) are also required to
determine the balanced strategies regarding the reinvestment of corporate profits (retained
earnings) for modernization and expansion, dividend payments, treatment of the sick units
and placing of the companies on default counters at the stock exchanges.

36.2 Historical Scenario

After opening up of the economy since early 1990s, modest growth has been
witnessed in stock market of Pakistan over the years, especially during the years 1995 to
2004, despite two major shocks of 28th May 1998 and 9/11 event. Although, the market has
been facing a long-term depression in the late 1990s and early 2000s; now it witnessed a
significant growth in the past three years due to the phenomenal surge in external account
surpluses reduced returns on National Saving Schemes and low interest rates. This resulted
in a massive growth in domestic liquidity.

Table 1
Equity Market at a Glance
Fiscal No of Listed Listed Market KSE 100 Index Annual
Year Companies Capital Capitalization Turnover
(Rs/ Billion) Highest Lowest (Billion)
1999-2000 741 236 383 2054 1276 46
2000-01 747 236 296 1550 1075 23
2001-02 725 261 412 2701 1322 29
2002-03 705 301 756 4604 2356 53
2003-04 685 374 1428 5620 4473 97

Stock market continued performing well and KSE 100 shares index attained the
record level of 10,303.1 mark on 15th March, 2005 under leading contribution of the textile,
banking, fuel and energy, communication (PTCL), cement and fertilizer sectors’ stocks.
Market capitalization at the Karachi Stock Exchange (KSE) increased form Rs.382.7 billion in
December 2000 to Rs.2813.4 billion on 15th March, 2005. All the indicators show a significant
and fast-growing improvement in Pakistan stock market. Market capitalization, trading
volume of shares and the mobilization of funds in the form of new listing (initial public
offerings – IPOs), issuance of right shares and debts instruments show the investors’
confidence and fundamental improvements in the economy in general and stock market in
particular. Stock market capitalization to GDP ratio is one of the indicators of financial sector
development. The mounting magnitude of this indicator shows that the role and
contribution of financial sector is increasing in the economy of Pakistan. The market has a
valuation ratio of 4.0, indicates 300 percent addition in the value of original investment
made by the investors. The average volume of daily turnover of shares has increased over
the time from 187 million shares in 2000-01 to record level of 1086 million shares on 23rd
February, 2005.

Table 2
Enhancement In Capital Market

Calendar New Listing of Companies Bonus Right New Debt Instruments Funds
Year Number of Capital (Rs/ (Rs/ Number of Funds Mobilization-
Companies Mobilized Billion) Billion) Instruments (Rs/ excluding bonus
(Rs/ Billion) Billion) shares
(Rs/ Billion)
2000 3 2 5 3 3 0.6 6
2001 3 3 4 2 5 6 10
2002 4 6 3 14 16 9 29
2003 6 5 5 9 6 3 17
2004 16 67 9 12 5 5 83
 The Pakistani stock markets also performed favorably in comparison with other
regional markets as KSE 100 share index witnessed much higher growth in last two fiscal
years compared with the other regional markets stock indices. The market has also been
classified as the world’s fastest growing market in 2004.

36.3 Sectoral Analysis

According to the Karachi Stock Exchange (KSE) classification, stock market of

Pakistan consists of 34 sectors. In terms of market capitalization, Oil and Gas Exploration,
Communication, Commercial Banks and Oil and Gas Generation and Distribution are the
biggest sectors, having more than Rs.100 billion investments. However, power generation
and fertilizer are also included in the biggest investment sectors in term of paid up capital.
Textile spinning and textile composites are also classified as important sectors because of
their contribution in the economy in terms of employment generation capacity, value
addition, foreign exchange earnings and the large number of the companies.

Textile Industry

The textile sector is the largest industrial contributor in the national economy of
Pakistan and also the biggest in term of the volume of business activities. It is the largest
source of foreign exchange earnings, which contributes more than 65 percent share in the
exports from Pakistan. Its contribution is 46 percent in industrial manufacturing, 38 percent
in industrial employment, 27 percent in value addition and 8.5 percent in GDP. It has also
important and significant shares in the national exchequer, research and development
efforts, and the investment and financing activities. It is also important because of its
backward linkage with the agriculture sector and its forward linkage with the ancillary
industries.

At present, about 200 spinning and weaving companies are listed on the Karachi
Stock Exchange. Almost all of these belong to the primary goods in textile sector. Less than
one percent of the listed companies of textile sector belong to garment, hosiery, bed-wear,
towels, or made up sectors. This is the reason that value-added textile sector is not included
in the classification of companies by the Karachi Stock Exchange. To promote the value-
added production, the value added sector will have to be organized. The small scale,
informal, unorganized and cottage units cannot boost the exports in the free trade regime
and in the age of gigantic multinational corporations. Organized sector can boost the
exports. It can spend larger amount of money on Research and Development (R & D); it can
compete in the present global environment. It can meet the requirement of the quality,
standardization and environmental measures through listing requirements, transparency,
external audits, and several checks by the regulatory bodies including Stock Exchanges,
Securities and Exchange Commission, Monopoly Control Authority, State Bank of Pakistan
and taxation authorities etc. Lack of big companies in the production of value-added textile
products was a basic reason of the higher exports of primary and intermediate textile
products from Pakistan. It was observed in the last two years, that industrialized countries
have started to shift their textile and clothing units to the poor and developing countries
because of the availability of cheap labor and raw material in those countries. By shifting
their production activities they can achieve the competitiveness in production cost. The
biggest companies in the industrialized countries have also decided to go into the joint
ventures with the textile manufacturers in the cotton producing countries. In fact, this policy
is an adjusting strategy to face the free trade regime. This is a time for Pakistan to induce the
foreign direct investment in the value added textile sector. In this way, not only the foreign
exchange earnings will increase on permanent basis, but also utilization of local raw material
will be ensured, and the agriculture sector will receive its due share in the form of
reasonable prices of its production, which will lead the reduction in poverty and eradication
of regional imbalances. It is obvious that inflow of foreign investment will further improve
the stock market indicators and the foreign exchange reserves in the country.

Table 3
Share in export and corporate culture
Sector Total Listed Share in total
Companies Companies exports (%)
Spinning 211 117 10
Weaving 85 19 12
Composite 150 57 -
Processing 350 - -
Garments 1200 4 8
Hosiery 600 2 9
Towel 650 3 10
Bed wears 650 2 18

Energy

Energy sector is also an important sector of the economy not only because of the
heavy investment and its market capitalization, but also for its role in the economy. At
present HUB Power Company and the Karachi Electric Supply Corporation (KESC) are the
major companies in this sector. The government policies regarding the independent power
plants (IPOs) and privatization of the government owned companies in this sector are
important in the determination of the future prospects of this sector. This sector has
multidimensional problems. The shortage of energy, flaws in the distributions’ network,
unionism, improper infrastructure and illegal connections are the main issues, which can be
managed by the administrative measures. However, the most important economic issue is
the pricing of energy. The World Bank sources have confirmed the industry claims that
Pakistani industrialists have to pay the highest cost of electricity among the industrialists in
the countries in the region. It is obvious that this high cost is transferred into the prices of
industrial products, and makes those products uncompetitive in the international market.
Another aspect of this high cost is the acceleration of inflation in the local market. The
Ministry of Finance in coordination with the Ministry of Industries, Ministry of Privatization
and Investment and the NEPRA should determine a policy to ensure the industrial
competitiveness and protection of the interests of investors in energy sector as well as
general public.

Telecommunication

This important sector of the economy is now being passing through a revolutionized
stage. The increasing competition may reduce the profitability of the existing companies.
The Pakistan Telecommunication Company Limited (PTCL) has been enjoying a monopoly
for the last several years. Now, because of the inflow of foreign investment and the
technological improvements in this sector, the role of this industry is being changed. For
planning purpose, the government should not directly involve in the business of this sector,
however government should ensure about the protection of the investors’ interests. Another
area for the government functioning is the strengthening of the law of ‘Monopolies and
Restrictive Trade Practices Ordinance’. It was observed in the past that companies in this
sector had been developing their cartel to exploit the market. With the protection of
investors’ interest, the protection of consumers’ interest and security measures are also
important. The new investors in this sector prepare their feasibilities on the basis of present
environment. Excess competition in this sector may lead the withdrawal of investment and
outflow of the capital because of enviable profits.

Banks and Financial Institutions

This sector includes the commercial banks, investment banks and Non-banking
finance companies (NBFCs). The commercial banks and Development Finance Institutions
(DFIs) are working under the supervision of the State Bank of Pakistan. While, the Non-
banking finance companies (NBFCs) are functioning their services under the supervision of
the Securities and Exchange Commission of Pakistan (SECP). This distribution is based on
one of standardized functions of the central bank – guardian of money market. Being the
guardian of money market, the state bank is responsible to supervise the operation of those
institutions, which can directly affect the money market operation and performance. While,
the SECP is responsible for all those companies, which offer their securities to general
public. The Non-banking finance companies (NBFCs) are allowed to offer the business in the
areas of leasing, investment advisory services, assets management services (open ended and
closed ended mutual funds) and the financing (including housing finance).

It has become a common observation that all the above mentioned institutions
compete to each other. The banks provide the services like leasing and the leasing
companies provide loan facility through finance lease business. In fact leasing business
implies the operating leasing, which is an ignored area in Pakisatn and a negligible part of
the total leasing activities. The operating lease is like hiring the equipment on rental basis
without any transfer of ownership at present or in future. While, finance lease is the transfer
of assets on ownership basis after the rental period.

It is important that banks and financial institutions are the drivers of the industry;
they provide the financing facility to the industry. However, their role should be properly
defined and implemented. It was observed that those institutions have been creating
unbalanced growth because of their businesses in a few concentrated areas like housing
finance, car leasing, consumer financing. The commercial banks should focus on the lending
to the small and medium enterprises (SMEs) for short and medium terms; investment banks
should focus on the equity and debt financing for long term ventures; investment advisory
and assets management companies are already working for the investment in secondary
market. The leasing companies should not provide loans through finance lease; they should
promote the operating lease, which is also important in the process of Islamization. The
weakest area of the capital market is the Modarbas institutions. It is important that Modarba
is not a type of business; it is a type of company. However, the majority of Modarbas in
Pakistan is involved in the leasing, investment and other similar types of business. The role
of Modarbas in the economic value addition has always been questionable. They have not
been serving in the manufacturing or industrial activities. There is a need to mobilize the
Modarbas’ funds for industrial growth by direct investment.
36.4 Capital Market Reforms

To bring reforms in the capital market of Pakistan, a loan agreement was signed by
the Government with the Asian Development Bank (ADB) in January 1998, under which
Securities and Exchange Commission of Pakistan (SECP) was set up on 1st January 1999 and
since its inception, it has carried out wide-ranging reforms relating to the rationalization of
trading practices, governance, risk management, transparency, streamlining of rules and
regulations and enhancing confidence of the investors in the capital market. Rationalization
of the carry-over trade (COT) system, issuance of the Margin Trading Rules 2004 and
Regulations by the SECP and the SBP, induction of the independent professional
management system at the stock exchanges, formation of the Central Depository Company,
implementation of the automated national clearing and settlement system, induction of the
T+3 systems, establishing a code of conduct under the brokers Registration Rules,
strengthening the margin requirements, implementation of the capital adequacy limits on
broker exposure, redefining the minimum net capital requirements for the brokers,
replacement of the “Blank Selling” by generally accepted and carefully regulated “Short
Selling”, and implementation of the “Un-disclosed trading System” are included in those
areas which have been reformed in the last few years by the SECP or its precedent
institution (CLA).

In addition to the above-mentioned earlier reforms, the following reforms are

currently under process:

i) Accounting standards and practices are being improved with the help of
professional accounting bodies. In the contemporary global economic
environment, if countries do not have an effective financial system, adequate
regulatory laws, transparency and accounting standards, their development
is endangered and will not last. The linkage between the economic
development and financial system cannot be ignored. A good financial
system and accounting standards lead the higher investment in the economy
and investment is a catalyst for economic development. It is needless to say
that a weak accounting and regulatory system can create an environment
where the chances of financial irregularities, loan defaulting, bankruptcies
and corruption may be higher. All of these are the factors of lower economic
growth. A significant relationship between the accounting standards and
GDP growth has been found in a recent study compiled by the World Bank.
According to this study had Argentina raised its accounting standards from
levels prevailing in the early 1990s to the OECD average, it would have
boosted the country's projected annual GDP growth rate by 0.6 percentage
point. If the Arab Republic of Egypt could improve its enforcement to the
level of that in Greece, its growth rate would be expected to rise by 0.9
percentage point a year. Overwhelmingly, growth is strongly influenced by
infrastructure to support information gathering and by enforcing contracts
based on such information. Highest standards of accounting, disclosure and
transparency are prerequisites for efficient working of the capital market. The
SECP has taken several steps in this regard including rotation of auditors by
listed companies after every five years, restriction of auditors to provide non-
audit services to their listed audit clients and enhancement of penalties on
auditors in case of professional misconduct
 ii) The SECP intends also to set up a corporate laws review commission to
harmonize the legal and regulatory framework in order to make it more
efficient and cost effective

iii) The Code of Corporate Governance required directors to discharge their

fiduciary responsibilities in the large interest of all stockholders in a
transparent, informed, diligent and timely manner

iv) An Institute of Corporate Governance is in the process of being established to

provide an enabling environment for the implementation of the recently
promulgated Code of Corporate Governance. In addition, the SECP has
directed each stock exchange to set up a monitoring and surveillance wing to
check market abuse. Also, SECP intends to promote Corporate Social
Responsibility (CSR) and Socially Responsible Investing (SRI), so that
companies can contribute to sustainable economic development by running
their business to achieve economic growth, but at the same time, ensure
environmental protection and protect consumer and other stockholders
interest

Moreover, Securities and Exchange Commission of Pakistan (SECP), has also

streamlined the issuance of Term Finance Certificates (TFCs), and issued Eurobonds (of $
500 million) in February 2004.

Demutualization of Stock Exchanges

The most important and debating step taken by the Securities and Exchange
Commission of Pakistan (SECP) was the ‘Demutualization’ of the three stock exchanges. It is
important that more than 85 percent of world’s leading stock exchanges have already been
‘demutualized’. In Pakistan this process is under implementation and it is being expected
that it will be implemented in the current year. Under this system the stock exchanges will
be converted into profit making organizations and the members of the stock exchanges will
be receiving dividend from the stock exchange income. In this case the members will have to
loose their rights of brokerage business. The brokers will be different from the members of
the stock exchange. By implementation of this system, the transparency and independency
will be ensured. At present members of the stock exchanges do the business of brokerage,
which leads to clash of interests and the stock exchange as a rule making, and execution
body cannot work as an independent and transparent institution.

Futures Market and Hedging (NCEL)

The history of hedge trading has long roots in the economy of Pakistan. In the cotton
market, hedging was a legitimate business, however, in 1970’s its requirement was abolished
because of the nationalization of cotton trading activities. In 1980s’ Islamic Ideology Council
did not permit the restoration of hedging. Now, the government has decided to restore the
hedging in the commodity market. For this purpose, a company - National Commodity
Exchange Limited has been formed. The company has been inaugurated and its business in
commodity futures trading will be open in the mid of current year. This commodity
exchange will be responsible to introduce and develop the derivatives products in the
financial markets of Pakistan.
 However, the legislative measures are required to protect the interest of producers
and consumers of those commodities where prices’ fluctuations are common. Cotton and
gold are included in those commodities, which are included in the priority list of the
National Commodity Exchange Limited (NCEL). For the legislation and harmonization in
the interest of related parties, a coordination is required between the Securities and
Exchange Commission of Pakistan (SECP), Ministry of Food, Agriculture and Livestock
(MINFAL), and Ministry of Commerce.

36.5 Prospects for MTDF (2005-10)

Prospects for the Capital Market during the Medium Term Development Framework
(MTDF) period (2005-10) are satisfactory and trustworthy. Under the changed scenario
when Pakistan has been out of IMF program, role and importance of capital market has
increased manifold. In addition to inviting enhanced inflow of investment in private sector,
government now prefers to mobilize resources from the international bond market
(secondary market) through issuance of its various bond products rather than approaching
to international institutions and bilateral creditors for loans and credits for implementation
of its development projects, which will further deepen the business activity in the capital
market. Government has successfully launched the new bonds termed as “Islamic bonds” in
early 2005. Re-entry of Pakistan in international bond market in 2004, after a gap about 7
years (after 1997), proved as a happy and encouraging step which further improved
international rating (B + by S & P) and being out of IMF program/ conditionality.
Privatization of Oil and Gas Development Corporation (OGDC), Pakistan Petroleum
Limited (PPL) and the Karachi Electric Supply Corporation (KESC) are the recent examples
of the resource mobilization through foreign private investment.

The buoyancy in the stock markets, can be attributed to a number of positive factors
including a continuation of pro-growth macroeconomic policies, a stable macroeconomic
environment, a strong growth momentum taking firm hold, acceleration in privatization
process through the capital markets, appropriate reforms initiated by the Securities and
Exchange Commission of Pakistan (SECP), the availability of adequate liquidity in the
market due to historic low interest rates, good operating financial results from majority of
the blue chip companies and a visible improvement in the India-Pakistan relationship. These
factors despite the downward slide in March/April 2005 are expected to continue to drive
the stock market during the next five years also.

Historical growth in the stock market (in term of market capitalization) shows heavy
fluctuations in the long-term, and an uninterrupted positive growth in the last four years.
The negative growth was observed from 1997-98 to 2000-01. Stock market was grown at the
rate of 39 percent in 2001-02, 60 percent in 2002-03, and 89 percent in 2003-04 while more
than 30 percent growth is expected in 2004-05. During the Medium Term Development
Framework (2005-10), the stock market is expected to grow between 20 and 35 percent,
depending upon the monetary and fiscal policies and expected growth in the equities at the
rate of 10 percent per annum in the form of new listings (IPOs), right shares, bonus shares
and the corporate retained earnings.
 Table 4
Growth in Money and Capital Markets
(Rs./ Billion)
Fiscal Market Capitalization Equities Market Public Money Time and Money
Year Liquidity Debt Supply Other Supply
Simulated Actual (M1) Deposits (M2)

1990-91 96 68 67 241 24 265 136 401

1991-92 148 218 86 304 -1 303 203 506
1992-93 163 214 100 308 20 328 267 595
1993-94 406 405 124 304 55 359 344 703
1994-95 348 293 254 373 50 423 402 825
1995-96 389 365 279 391 57 448 491 939
1996-97 405 469 307 387 57 444 609 1053
1997-98 231 259 338 398 82 480 726 1206
1998-99 354 289 372 537 107 644 636 1280
1999-00 463 383 409 637 93 730 591 1321
2000-01 453 296 410 707 135 761 765 1526
2001-02 535 412 411 782 163 877 884 1761
2002-03 902 756 598 862 189 1106 973 2079
2003-04 1465 1428 690 1267 105 1372 1115 2487
Base Year Scenario
2004-05 1858 -- 759 1468 103 1571 1276 2847
Forecasted
2005-06 2258 -- 835 1644 100 1744 1418 3162
2006-07 2734 -- 918 1836 100 1936 1574 3510
2007-08 3406 -- 1010 2097 100 2197 1788 3985
2008-09 4288 -- 1111 2415 100 2515 2047 4562
2009-10 5423 -- 1222 2793 100 2893 2349 5242

36.6 Identification of weak areas and Recommendations

National Economy and the stock market correlation: Weak efficiency

In the language of financial economics, ‘market efficiency’ means a situation where

buyers and sellers of the securities are in a position to receive the relevant information
simultaneously and free of cost. Moreover, they must be in a position to use the relevant
information for price assessment purposes. According to the literature of financial
economics, an efficient market eliminates the chances of moneymaking or abnormal profits
through misusing of information or disinformation. All over the world, the regulatory
bodies work to achieve the maximum efficiency in the financial markets. Only in the
presence of efficiency, a stock market can reflect the real picture of the economy.
 It had been being commonly observed that stock market in Pakistan shown a good
picture when other economic indicators were in undesirable zone, and vice versa. This non-
correlation between the macro economic indicators and stock market trends indicates the
systematic problems in the institutional linkages of economy with the stock market. A major
cause of inefficacy and non-correlation between the stock market and the economy of
Pakistan was the isolated functioning and dis-harmonized policies by the different
ministries and states’ institutions.

More than 75 companies were de-listed from the Karachi Stock Exchange during the
last five years. Majority of the companies opted the option of de-listing on voluntary basis. A
major cause of this voluntary de-listing of the companies was the emphasizing on dividend
payments by the Ministry of Finance and the Securities and Exchange Commission of
Pakistan (SECP), while the companies had required the funds for re-investment to expand
and modernize their equipment to compete in the free trade regime. In fact, the Securities
and Exchange Commission of Pakistan (SECP), Ministries of Finance, Economic Affairs,
Commerce, Industries, Investment and Privatization, and the State Bank of Pakistan should
work in harmonized way to develop the stock market as deterministic and reflector of the
economy. The Planning authorities should identify the priority sectors with the help of
information and trends provided by the Ministry of Commerce and Ministry of Industries,
while, the Securities and Exchange Commission and the State Bank of Pakistan should
develop the strategies to promote the investment in those priority sectors through debts and
equity financing by institutional and individual investors.

Low Market Capitalization to GDP ratio

With all the modes of improvement in the past few years, the capital market in
Pakistan lags much behind the level of development, which many other regional country’s
markets have attained. For example, India, Malaysia and South Korean capital markets are
much developed and deepened than of Pakistan. Market capitalization in Indian stock
market was US$280 billion (about 50 % of GDP) as of end 2003, in Malaysia’s market it was
at US$127 billion as of end 2002 while in Pakistan, it was at US$25 billion (26.2 % of GDP) at
the end of 2004. To develop the capital market to a level where it could be able to prove as
an important driver for bringing investment in the country and mobilizing sufficient amount
of resources needed for a balanced economic development certain pre-requisites are needed.
The availability of funds, good corporate earnings and market efficiency are the elements of
a developed capital market. So far as availability of funds is concerned, it depends on the
monetary and fiscal policies. However, a good and dynamic system for the flow of
information and research-oriented higher education in economics and finance are the pre-
requisites of market efficiency. Research oriented higher education will produce the ability
to transform the relevant information into security prices, which is an important
characteristic of the efficient financial markets.

Poorly Developed Bond Market

Variation in the debt-equity mix depends upon the macroeconomic environment as

well as government controls and intervention in the domestic capital markets. The largest
500 companies in the world have 89 percent capital in debts or current liabilities and only 11
percent in equities. For the world as a whole the imbalance between debt and equity is even
more marked. A mere 7 percent of the money raised on the international capital markets has
been raised through equities. This is an indicator of the importance of debt market for the
corporate world. However, Pakistan does not hold a developed corporate bond market. The
financing of government deficit by public debts, low interest rates and an anti-interest
bearing attitudes in the minds of public are some of the reasons for embryonic bonds
market. The concerned agencies such as SBP & SECP may examine these and other factors
inhibiting growth of Bond market with a view of suggesting measures for its development.

A developed bond market is one of the basic requirements to develop the corporate
sector. According to the MTDF (2005-10), the public debt will be reducing and the budget
deficit kept lower than the average of past four years (2001-05) in the coming years. It will
lead to improvement in the corporate bonds market. Moreover, good credit rating of the
companies, their goodwill in the public minds and the role of monetary policy are also
important determinants of the bond market, which need to be addressed.

Institutional Investment

Institutional investment plays an important role in the development of corporate

culture and growth of the financial markets. It enhances the liquidity in capital market by
allowing more players to enter in the capital market. Institutional investment covers the
pension, provident and mutual funds and insurance companies. They minimize the risk by
diversification and ensure the better returns. The institutional investment will make
responsible to the companies, improve the governance and accountability, implement the
professionalism and improve the savings in the economy. It is a common observation in all
the industrialized countries and Far Eastern economies that institutional investors contribute
the major part of the equities in the financial structures of the companies. In Pakistan, 40
percent equity shares are held by the directors and promoters, 35 percent by the small
investors and only 25 percent by the institutional investors. There is a need to improve this
situation. An enhanced share of institutional holding will not only improve the corporate
governance and earnings but also encourage the saving culture in the economy.

36.7 Downward Slide of March 2005

The sudden slide in Karachi Stock Exchange when its 100 shares index started
dropping from 10303 points peak on 15-3-2005 can be attributed to various factors and
developments. By 28-3-2005 when the marked was brought under control at 7708 points
through emergency rescue operations involving banks, financial and other institutions, it
had lost 640 billion rupees of its capitalization. Small investors were the major victims. The
fall also exposed the hidden as well as so far overlooked weaknesses of the stock market and
of the regulators. Questions were also raised about the state of affairs in the Corporate
Sector. All these are summarized as under:

i) Lack of safeguard (s) for small investors / minority shareholders

ii) Lack of sufficient float or non-availability of shares of the listed companies

iii) The rationale behind having an index of 100 shares, selection of shares and
weight given to them

iv) Action (s) taken to control inside information and clash of interest

v) Failure of Regulators to enforce timely risk management measures

 Keeping in view the fact that perceptible improvement in saving ratio is directly
dependent on the safeguards available to small investors, a workable mechanism has to be
evolved. In this regard, the possibility of fixing a sizable number (30 to 40%) of the directors
of listed companies reserved for minority shareholders irrespective of their holdings can be
considered. In this way not only the interest of minority shareholders will be safeguarded,
the temptation of the sponsors to have more than 50 percent share in their names will vanish
leaving and making sufficient float available for the general public who will not be forced to
concentrate their investment on the top 10 to 20 companies. Incentives for listing including
reduction in cost of listing can also be given due consideration. The desirability of reducing
100 shares index to a small number (20 to 30 shares) with a simple calculation of index may
also be considered. As regard the privatized shares, proportional weight may be given to
the shares actually privatized. Development of workable mechanism to cope with the
menace of inside information may be taken in hand which will have direct bearing on the
success of proposed demutualization of stock exchanges. Providing level playing field even
if government institutions are involved may be vigorously pursued. Suitable policies may be
formulated for enhancing the development prospects of Lahore Stock Exchange and
Islamabad Stock Exchange. SECP, on the pattern of Securities Commissions of other
countries of the world may be relieved of the administration of office of Registrar of
Companies and Regulation of Insurance Sector to enable it to concentrate on its core
function of regulating stock market and listed companies. To successfully cope with its
responsibilities SECP has to be fully manned with experts possessing not only the requisite
knowledge and skills but also the vision to anticipate market stress and the technology to
manage it.

Other than the above-recommended policy measures, to maintain a macroeconomic

stability with sustained growth and appropriate mix of fiscal and monetary measures,
further intensification in the scope of SECP and gearing up in privatization process are also
important steps to boost private investment and strengthen the investors confidence.