WHENEVER we talk about the capital market, most people in our country visualise share trading at the secondary market. That is why it is a generalised perception that the capital market does not contribute to economic development in the country.
Historically, the secondary market is considered the barometer to gauge the importance of the capital market. However, the capital market's main role is to raise capital for industrial development.
In Bangladesh, formation of capital through the market is insignificant compared to bank loans. Most businesses in Bangladesh depend on bank borrowing and equity financing. The total fund raised from the market is low compared to bank financing.
In recent years, even though market activity has increased, the contribution of the capital market in channelling capital for industrial development has been very low.
In 2013, 14 companies raised Tk 8.38 billion through the capital market; loans and advances from scheduled banks accounted for Tk 388.71 billion.
Since 1996, the capital market attracted investors and people have invested their savings. The secondary market has developed to some extent. There were times when the market was flooded by new funds and excess demand from the investors highly overvalued the market.
The market tapped new fund as returns from the capital market
were rewarding compared to deposits or returns on savings certificates or other instruments.
However, excess funds over a span of time created a bubble. Unfortunately, we cannot channel the excess fund to industrial development through a large number of IPOs. As a result, the market crashed and most people lost their hard earned money.
With too much money chasing a limited number of stocks, the market rose with no justification. That is why the market price earnings ratio (P/E) was historically very high at the DSE.
In 2009-10, the market weighted average P/E ratio reached 24.08 and in 2010-11, the market saw a heavy downfall once
the broad economic indicators started performing poorly compared to the last few years. The overvaluation of the market in 2010 took a heavy charge and most new investors lost their money.
Thus, the secondary market has also not been sustainable and the market framework remained weak. We could utilise the funds that have been attracted to capital market in recent times. Whenever there was excess funds in the market, entrepreneurs could tap the fund by raising funds through IPO. We could float a large number of IPOs at that time and the market could channel funds to industrial development.
The total issued capital by the
listed companies is Tk 398.012 billion. On the other hand, bank financing in the economy is around Tk 4,646.06 billion.
Historically, the secondary market in Bangladesh is relatively vibrant compared to regional peers. In 2010, market turnover velocity reached a high of 140.87 percent from 60.54 percent in 2007. However, the pace in velocity has not sustained and after the market crash in 2010-11, velocity dropped significantly.
Turnover velocity at DSE dropped to 36.07 percent in November 2013. However, liquidity in the market is still good and we should utilise our vibrant secondary market to float more IPOs.
There are many reasons behind slow IPO floatation; one reason is pricing. Entrepreneurs most often think they are not getting proper prices of their stocks, even though they are getting a 10 percent tax advantage.
They overleverage their balance sheets by taking bank loans. Another reason for slow IPO market growth is the time needed to float an IPO. Most entrepreneurs think that raising funds through an IPO is a cumbersome and time consuming process.
Regulators, on the other hand, are often reluctant to make quick approvals on IPOs, considering a negative impact on the secondary market and the demand side of the primary market. Presently, even though IPOs get oversubscribed, the capacity to absorb large IPOs on a frequent basis is not there. So regulators ration IPO approvals. To improve this situation, the demand side needs to be further increased. In Bangladesh, a quota of 10 percent shares through IPOs is kept for NRBs and another 10 percent for mutual funds. After the market crash in 2011, a 20 percent IPO quota has been reserved for the small-scale investors under a compensation scheme for 2012 and 2013.
In India, a quota of 35 percent in IPOs is kept for retail investors and 15 percent for high net worth individuals and companies at present. The rest 50 percent is for qualified institutional buyers, within which, domestic mutual funds have a quota of 5 percent.
We should introduce an IPO quota for foreign and local institutions and also for high net worth individuals along with the exiting quota for NRB's. This will increase our capacity to absorb large issues. More companies would come forward for a listing once they get proper prices.
We should accelerate the lead time for IPO floatation involving CDBL (Central Depository Bangladesh Ltd) in the IPO subscription process. To absorb a large number of IPOs, we need to change some existing rules. For example, the IPO allocation quota can be modified.
Presently, there are 56 registered merchant banks in Bangladesh. If each firm acts as an issue manager for a single firm in a year, there should be at least 56 IPOs in the market. But unfortunately, the number is low compared to the capacity of merchant banks.
By increasing the capacity of the primary market to absorb more IPOs, the capital market can contribute to the economy directly. Till date, contribution of the capital market in GDP is low compared to bank financing.
However, we can strengthen the primary market where entrepreneurs will be more interested in raising funds through the capital market. This will make the market sustainable in the long term.
The writer is the managing director of LankaBangla Finance.