Pakistani Capital Market

Secondary Market• Stock Exchange: An organised/formal market of trading securities

is called stock exchange.

• Over-the-Counter Market (OTC): A decentralized market of securities not listed on an exchange where market participants trade over the telephone, facsimile or electronic network instead of a physical trading floor.

• There is no central exchange or meeting place for this market.• In the OTC market, trading occurs via a network of middlemen,

called dealers.• Not well organised

History

• In 1934, prior to the independence of Pakistan, the city of Lahore established a stock exchange – the Lahore Stock Exchange.

• In 1936, this stock exchange merged with the Punjab Stock Exchange Limited. At that time, the city of Lahore had three locations where securities traded: the Punjab Share and Stock Brokers Association Limited; the Lahore Central Exchange Limited and the All-India Stock Exchange Limited.

History• Following independence in 1947, none of these

stock exchanges survived; two closed while the All-India Stock exchange migrated to Delhi (India).

• After the creation of Pakistan, Karachi became the hub of business activities due to the fact that it was the Capital.

• city and because it had a big sea port. On September 18, 1947, within two months of Pakistan being established, the KSE started operations, and therefore became the first stock exchange in Pakistan.

History

• In 1954, after the KSE had operated for several years, the Dhaka Stock Exchange was set up in the capital city of East Pakistan (now Bangladesh).

• In the late 1950s, there were attempts to re-establish a stock exchange in the city of Lahore; however, these efforts lapsed (Mirza, 1993). It was not until 1969 that the current Lahore Stock Exchange (LSE) was established; it became operational in May 1971.

• In 1992, the Islamabad Stock Exchange (ISE) was set up in the new capital of Pakistan. At present, therefore, there are three stock exchanges operating in Pakistan.

Introduction…

• The KSE is the largest of the three markets with 85.0% of turnover recorded for Karachi; only 14.0% of turnover occurs on the LSE while about 1.0% relates to ISE equities (Iqbal, 2008).

• Most of the companies listed on the KSE have cross-listed on the LSE and the ISE; this in turn has reduced the volume on both the LSE and ISE stock exchanges because most trading occurs on the KSE.

Introduction…

• In Pakistan, 40.0% of equity shares are in the hands of 35 promoters and directors, 35.0% of shares are held by small investors and 25.0% are owned by institutional investors (Lukman, 2010).

Settlement of Transaction on Exchanges

• Transactions on all the three stock exchanges are managed by the National Clearing Company of Pakistan Limited (NCCPL).

• The NCCPL was established on July 3, 2001 for settlement of security transactions arising from dealings on the stock exchanges. The NCCPL established the National Clearing and Settlement System (NCSS) to carry out the settlement of securities for all three markets.

• The most common settlement period is T+2. Under this arrangement the buying, selling, payment, receipt and transfer of securities for each member is settled by the NCSS within two working days

Settlement of Transaction on Exchanges

• As a result of the large volume of trading on the three stock exchanges, the handling of physical share certificates became burdensome. As a result, the Central Depository Company of Pakistan (CDC) was set up in September, 1997.

• Its main function is to register security transfers using an electronic book-entry system. Investors, at their discretion, have access to the security certificate if they wish. Currently, about 97.0% of trading is settled through the CDC .

• The goal of the CDC and the NCCPL is the establishment of an efficient electronic capital market in Pakistan.

LSE• The LSE is the second largest stock exchange of

Pakistan. • There are 152 members of the LSE of whom 81 are

corporate and remaining are individual persons. • The LSE has two branches – one in the city of

Faisalabad and the other in Sialkot. • The LSE is the most dynamic stock exchange in

Pakistan; for example, it was the first to shift from a trading pit system to an automated trading system in 1994; it also pioneered internet-based trading for its members in 2001.

• The benchmark of the LSE is the LSE-25 index.

ISE

• It is the smallest of the three exchanges.• It currently has 120 members including 94

corporate and 26 individual members. • It was felt that the establishment of the ISE

would facilitate growth in the less-developed Northern part of Pakistan.

• On 1st January 2004 the ISE established its own benchmark index, the ISE-10. Before this, KSE-100 index was used a benchmark for trading.

Karachi Stock Exchange (KSE)

• The KSE is the oldest and the largest stock exchange in Pakistan; it is also the second oldest stock exchange in the whole of South Asia.

• Membership became fixed at 200 in 1966 and this limit still remains; a prospective member therefore has to buy a seat on the KSE from one of the existing members.

• Total members are 200; out of which, 183 corporate members and remaining are individual.

Operations of the KSE

• The KSE is run by a Board of Directors which comprises10 members: five members of the KSE, four individuals who are not members of the KSE and one Managing Director.

• The four non-members are elected by the SECP and the five members are elected by their peers.

• A Chairman is elected out of the non-members by the Board with the Managing Director acting as the Chief Executive of the exchange dealing with its operational and administrative functions.

Operations of the KSE

• At its outset, the KSE used an open-out-cry system of trading, but this changed in May 1998 when a computerised trading system, known as the Karachi Automated Trading System (KATS), has introduced.

• All transactions take place via computers and transactions costs are freely negotiable between members and clients.

Operations of the KSE

• The KSE has also introduced a cap on the extent to which securities are allowed to vary since 2008; only share price fluctuations of five percent around the opening share price of the security are now allowed.

35 Sectors on the KSE1 Automobile Assembler 15 Leasing Companies 29 Textile Spinning

2 Automobile Parts & Accessories 16 Leather & Tanneries 30 Textile Weaving

3 Cables & Electric Goods 17 Miscellaneous 31 Tobacco

4 Cement 18 Modaraba 32 Transport

5 Chemical 19 Oil & Gas Exploration Companies

33 Vanapati & Allied

6 Close-end Mutual Fund 20 Oil & Gas Marketing Companies

34 Woolen

7 Commercial Banks 21 Paper & Board 35 Open-End Mutual Fund

8 Engineering 22 Pharmaceutical

9 Fertilizer 23 Power Generation & Distribution

10 Foods & Personal Care Products 24 Refinery

11 Glass & Ceramics 25 Sugar & Allied

12 Insurance 26 Synthetics & Rayon

13 Inv. Banks / Inv. Cos. / Sec. Cos 27 Technology & Communication

14 Jute 28 Textile Composite

Market Indices

• Various indexes have been introduced to gauge the share price performance of the main Pakistani stock exchanges.

• The KSE-50 share index was used as the main index of KSE until November 1, 1991 when the KSE-100 was introduced to capture changes in over 80.0% of total market capitalisation.

• This index is currently used as the benchmark for measuring the performance of share prices by the KSE.

Market Indices • The KSE-100 index is comprised of 100 companies: 34

companies are selected on the basis of having the largest market capitalisation in each of the 34 Karachi Stock Exchange sectors.

• while the remaining 66 companies are included on the basis of their market capitalisation irrespective of the industry and are taken up by the largest market capitalisation companies in descending order.

• Open-End mutual fund is not included in computation of the KSE-100 index as its market capitalisation is not fixed.

• While the KSE-100 is the main index.

Re-Composition of the KSE-100 Index

• The inclusion or exclusion of a company from the KSE-100 index is done bi-annually (1st April and 1st October each year)

• Couple of rules are used in re-composition:– Sector Rule• Time-based rule• Value-based rule

– Capitalisation Rule• Time-based rule

Re-Composition of the KSE-100 Index

• Sector Base: The addition/deletion of a company on basis of top market capitalisation in the 34 sectors is based on couple of rules: – Time-Based Rule: A company is eligible to be selected in

the KSE-100 index if it maintained its possessed its largest market capitalisation for two consecutive decomposition periods (i.e., one year).

– Value-Based Rule: A company will be included in the index if its market capitalisation is more than 10% of the existing company of the index with largest market capitalisation of a sector for last one decomposition period (i.e., 6 months).

Re-Composition of the KSE-100 Index

• Capitalisation Rule: Only one rule (time-based) applied while adding/deleting of a company on the basis of largest market capitalisation irrespective of the sector.– Time-based Rule: A company can be selected in the index

if its capitalisation exceeds the market capitalisation of the last company in the index for successive two decomposition periods (i.e., 1 year)

Market Indices• The increase in the index is refers as ‘bullish’

trend and decrease in index is known as

‘BEARISH’ trend.

• ISE Building

Market Indices

• For example, on September 18, 1995 the KSE introduced the KSE-All shares index, which consists of all companies listed on the KSE at a particular point in time.

• For international investors, the exchange also established the KSE-30 index as a benchmark of major share performance; it is comprised of the top 30 companies calculated on the basis of free float market capitalisation.

Market Indices

• To cater to the needs of Islamic focused investors, the KSE introduced the first Islamic index, KMI-30, in 2008 based on the free float market capitalisation.

• Currently, a limit of 12.0% exists for each company on the KMI-30 whereby the market capitalisation of an individual company cannot exceed 12.0% of the total KMI-30 index value.

• This rule was introduced in order to control the volatility of the index to avoid the influence of large companies.