Home ›› 20 Dec 2021 ›› Editorial
The securities regulator BSEC leaves no stone unturned to calculate the Banks’ exposure to the stock market at cost prices instead of market prices of the shares. The move is apparently to increase the greater flow of money to the market. Let’s shed some light on the stock market’s overdependence on the Banks’ money. This is not a new issue –the issue came into discussions several times in the past.
The decades-old debate over the Banks’ exposure to the stock market comes to the surface whenever the indexes keep sliding or going up. That’s exactly what is happening now. Against this backdrop, the Bangladesh Securities and Exchange Commission (BSEC) runs to and fro to stabilise the market by paving the way for channeling the Banks’ money to the market. On November 16 this year, it proposed the central bank to allow banks to transfer unclaimed dividends valued around Tk 20,000 crore to the Capital Market Stabilisation Fund formed recently and calculate the Banks’ exposure at cost prices of the shares to help boost the cash flow to the market. In response, the Bangladesh Bank said the BSEC’s proposal went against the Bank Company (Amendment) Act, 2013. It fears that banks’ exposure to the stock market may cross the regulatory limit, deviating from their core banking which was evident in the past. The market has now been experiencing extreme volatility caused largely by the discord between the two regulators. Some retailers have had their fingers burnt by the bickering.
In the rising market, the banks’ exposure to stock starts to exceed the investment limit because of computing the exposure at market prices of the shares. The trend invites the central bank to take action against the overexposed banks. For example, several banks including state-owned Sonali Bank, NRB Bank, and NRBC Bank were fined and some were warned for overexposure.
And when the market continues to plunge, the banks are instructed unofficially to pump cash into the market. Recently, it happened as a private bank invested over Tk 100 crore in the stocks in a session, sources said.
Before the market crash in 2010-2011, banks are allowed to invest 10 per cent of their total liabilities (A big part of which comes from deposits) in the stock market. Then, the investment limit was set at 40 per cent of their total regulatory capital. Later, the limit was gradually reduced to 25 per cent in three years to July 2016 in line with global practices as per the suggestion of the International Monetary Fund. The Asian Development Bank also suggested that the banks’ investment in the capital market should not be more than 25 per cent of their equities instead of liabilities. Banks’ investment in the stock market is allowed even in developed countries to a limited scale probably because of income diversification and keeping the stock market buoyant. Let’s delve into the Indian, Pakistani and other global experiences about the Banks’ exposure to the stock market. One of such regulations capped banks’ exposure to the stock market because stocks are considered one of the riskiest financial instruments. The RBI or Reserve Bank of India capped banks’ exposure in the capital market in all forms (fund-based and non-fund based) to 40 per cent of their net worth. Further, banks’ direct investment in shares, convertible bonds, convertible debentures and units of equity-oriented mutual funds is calculated at their cost price, according to a RBI master circular in 2015. Similarly, banks in Bangladesh are also allowed to invest in stocks. But the BB calculates the exposure at the market price of the shares as per the banking rules. This calculation was termed irrational by market intermediaries.
Banks’ noninterest income has recently been rising sharply which reveals a shift in sources from charges on loans to investment income. The combined stock exposure of banks shot up to 24 per cent during the pandemic in 2020 from 22.8 per cent a year earlier, according to a BB report. The stock exposure increased to 30 per cent in July 2021 when the market saw a steep rise. Just before the market debacle in 2010-2011, net interest income to total assets increased from 2.17 per cent in 2009 to 2.50 per cent in 2010, which dropped to 2.47 per cent in 2011, according to BB data. On the flip side, the banks’ noninterest income to total assets increased from 3.01 per cent in 2009 to 3.04 per cent in 2010. The ratio declined to 2.87 per cent in 2011. The investment pattern tells that more than half of the banks’ income came from noninterest income aided by the investment in the capital market. Following the stock market crash in December 2010, the income pattern had witnessed a considerable change. This implies that more than half of banks’ income is vulnerable to stock price fluctuations, according to a study done by Md Toufique Hossain, the stock market analyst and financial market columnist and lecturer at Royal University of Dhaka.
Banks’ involvement in the stock market to such an extent cannot be construed as a sensible investment decision and healthy banking practice because of the nature of the industry, equity participation of banks as a source of funds is minuscule, said the report.
A lion’s share of commercial banks’ total liabilities is provided by depositors. Thus, any adverse effects on banks resulting from the stock market fluctuations would severely hit the depositors, it noted.
The money from the banking system contributed to the swelling of share prices on the stock exchanges, making it the best performing bourse among Asian frontier markets in August 2020 and May 2021, according to a research report of Asia Frontier Capital Ltd, a Hong Kong-based investment company.
In such a situation a trickledown effect of one Banks’ bankruptcy would hit others which might end up with a bank run. If so, a financially shallow economy like Bangladesh can hardly afford to bear the burden, Hossain’s report observed. In this sense, the regulatory authority should be very cautious in allowing banks to invest in the capital market. Moreover, banks’ strong presence in the stock market might be deleterious in the sense that the ability of individual investors to invest in the stock market is scant compared to the ability of a bank.
As such, if the purpose of capital market regulators is to ensure stability in the market they must encourage individual investors who are likely to invest for a relatively long period. Since the supply of quality securities in the local stock market is very insignificant which results in relatively low market capitalization, the Banks’ growing presence would have a crowding-out effect on small but individual investors.
We should bear in mind that unless a capital market is blessed by a diversified base of individual investors, market dynamism cannot be achieved, which is one of the core principles of the capital market. If the depressed stock market requires institutional support for the greater interest of the economy, institutions like the Investment Corporation of Bangladesh (ICB) and mutual funds can be utilized. Definitely, the choice should not be banks. The share price debacle in 2010-2011, the banks’ overexposure drew flak from various quarters.
During the market crash, 10 to 12 banks violated the Bank Company Act and invested beyond the regulatory limit, according to the study. At the same time, few banks focused more on stock business rather than mainstream banking. Maybe, questions were raised by some quarters from the ethical perspective, but the banks were not directly put in the dock.
The major cause of any of the market crashes that happened so far across the world was a lot of commercial banks participating in investment or merchant banking activities.
A similar situation happened in the USA during the Wall Street crash in 1929. Wall Street entered a bubble territory when merchant banks were ponderously lending from banks to meet the rising demand for funds.
Banks cannot invest depositors’ money in the share market, because, customers do not authorise banks to invest their deposits in the stock market. For that reason, the Indian and Pakistani bank company acts stipulate that the banks’ exposure to stocks will be based on banks’ equity or owners’ capital, not deposit or liability.
The writer is a journalist. He can be contacted at kamsohel@gmail.com
