JSX to tackle stock liquidity problems
JAKARTA (JP): A low liquidity of shares listed on the Jakarta Stock Exchange (JSX) remains a daunting problem and hinders the exchange's transformation into a leading market in the region.
JSX's president, Cyrill Noerhadi, acknowledged that many issues listed on the exchange are still infrequently traded. The major reason for this is that initial issues were not widely distributed and thereby the basis for a strong secondary market has not been created.
Therefore, the medium and long term solutions to the liquidity problem should include improving the distribution of stocks, especially when a company conducts its initial public offering of shares so that the new issues are broadly distributed among investors.
Apart from share issuers' efforts, Cyrill noted, JSX has set six-step programs to help tackle stock liquidity problems in a bid to encourage more domestic investors to enter equity investment.
The six-step programs include improving information dissemination, reforming auction techniques, facilitating trading between institutional and retail markets, reducing trading credit risk by establishing the Clearing and Guarantee House, developing a safe, efficient Central Securities Depository and reducing trade costs through book-entry settlement.
Information
"Capital markets thrive on information," Cyrill said at a business luncheon here last week.
The 1995 Capital Market Law sets disclosure standards which require issuers to provide necessary information to investors. However, most of the time such information is not well distributed to all investors who need it. Thus, it is necessary to improve the techniques of information dissemination in such a way that information reaches all investors evenly and instantly.
Under its new listing guidelines, JSX will help listed companies distribute important news quickly via its electronic networks.
"Our objective is to ensure that necessary information on listed securities will be immediately made available to all investors through national and international networks," Cyrill said.
As part of its surveillance program, Cyrill said, JSX's management team will contact issuers immediately to ascertain reasons, if any, for unusual changes in trading activities and ensure that such news will be quickly disseminated to all investors.
JSX will also enhance its real-time price reporting to not only broaden its distribution network but also to provide a more detailed breakdown of relevant data to investors, Cyrill said.
Like most exchanges in the Asia Pacific region, JSX currently uses an automated real-time matching system for securities trading, in which offers to sell and buy stocks are entered into a computer and immediately matched.
Such an immediate matching technique works well for widely- distributed securities. However, many listed companies do not have enough shareholders to generate constant buy-sell order flows. Sometimes there may be an offer to buy without a corresponding offer to sell registered in the computer. Such unbalanced flows of buy-sell offers lead to sharp price volatility.
One solution to this particular problem is to hold orders on the system for several hours or even for a day before matching orders. This type of "call system" is used effectively in some order-driven markets, such as the Frankfurt Stock Exchange.
"JSX is currently studying ways to implement the call system for less liquid listed securities," Cyrill said.
Retail market
A large part of the trading activities on JSX today is made up of international institutional trades, many of which are registered on the "crossed market." The price executed on this market is quite unseen as the same broker represents both the buyer and the seller.
The fundamental reason for the large volume of crossed trades is that the settlement in the international market is risky and such a risk is reduced when a single broker acts both for the buyer and the seller.
Currently, the prices of crossed trades are not closely tied to the prices in the regular market. This results in less accurate price determination and consequently less liquidity in both crossed and regular markets.
It will be possible to remove some or all of the barriers between the crossed trading market and the regular market only after the call market and book-entry settlement are operational, Cyrill said.
Book-entry settlement
The fundamental strategy to improve liquidity is by increasing the participation of local investors, especially retail businesses which call for much lower transaction costs.
Today's certificate-based trading is still quite expensive, and it is still affordable for institutional investors but not for retails.
"The solution to this problem is to initiate scripless trading and book-entry settlement," Cyrill said, adding that the implementation of scripless trading is one of the major challenges facing the JSX.
At the macro level, the development toward scripless trading and book-entry settlement was initiated it 1993 through the operation of Indonesian Securities Clearing Depository (PT KDEI ) in February 1993.
KDEI's president, Sumantri Slamet, explained here recently that his company had initiated clearing operation in the form of presenting reports of transactions that take place on JSX to the respective members as well as facilitating possible corrections and confirmations of the transactions. As of January 1994, KDEI expanded its scope of operation by physically conducting transaction settlements for all members of the exchange.
The development toward scripless trading was then strengthened by the operation of the Jakarta Automated Trading System in mid- 1995, which resulted in a dramatic increase in terms of volume, value and number of transactions.
An increase in volume of transactions automatically raises the volume of physical settlement. To reduce possible errors, such physical settlement must be minimized and abandoned gradually and changed by book-entry settlement.
To facilitate scripless trading and book-entry settlement, it is necessary to form the Depository and Settlement Institution and the Clearing and Guarantee House -- as mandated by the 1995 Capital Market Law.
Sumantri said the two supporting institutions will be established within the next two to three months by a special task force, which was formed by the Capital Market Supervisory Agency.
A number of critics have blamed the agency and also JSX for such belated formation of the two institutions, which should have been formed earlier this year.
The Depository and Settlement Institution will act as central depository and central custodian of the currently existing custodian banks. As a central depository, the Depository and Settlement Institution must segregate participants' deposited assets and its own assets.
Meanwhile, the Clearing and Guarantee House will function as a guarantor for settlement of transactions between JSX participants.
The establishment of the two supporting institutions is inevitable for the implementation of the book-entry settlement system, Sumantri said.
However, a number of parties consider the establishment of the two institutions redundant. They contended that there should be one instead of two. Former JSX president Hasan Zein Mahmud, for instance, criticized it as a backward movement in Indonesia's stock exchange.
Scripless
Despite being targeted with criticism, the Capital Market Supervisory Agency, the JSX and KDEI continue with their plans to establish the two agencies to facilitate scripless trading and book-entry settlement.
Sumantri explained that the Central Securities Depository, as a subsystem in the book-entry settlement system, will conduct and monitor the physical stock conversion into electronic accounts as well as the withdrawal of stocks from the system. The function of the central depository is to facilitate the electronic stock transfer between brokers and their counterparts, the custodian banks.
The transfer of stocks and cash will be electronically conducted by debiting or crediting the stock and cash position of the participant. The central depository will electronically report particular deficiencies, such as default in delivery or payment, to the Clearing and Guarantee House. As a counterpart and guarantor of stock transactions, the institution will take the necessary action to secure a complete settlement.
The role of participants will be gradually extended beyond their current operations. Their physical stock deliveries will be changed to electronic deliveries through the book-entry settlement. The process of recording transactions, which is at present performed manually, will be transformed into the use of electronic ledgers in compliance with the general practice of accounting standards.
All deliveries between custodian banks and brokers will be conducted within the integrated electronic network, which is directly linked to the central depository. After payment is confirmed, deliveries can be carried out through settlement instructions to the central depository.
After the gradual implementation of book-entry settlement through an electronically integrated system, the recording of trades which, at present, is largely conducted manually will be automated by using the system.
Furthermore, the implementation of submodules will be also conducted stage by stage. Complicated features will not be introduced in the initial stage. In other words, the simplest standard configuration will be applied first, while advanced features will be used in time when operational needs arise, Sumantri said.
He noted that the conversion of physical stocks converted into electronic accounts will also be carried out gradually. The first stocks to be converted into electronic accounts are most definitely not those of the highest liquidity.
"The objective here is to assess the operational capacity of the entire system and to evaluate its performance under maximum pressure," Sumantri said.
He noted that the conversion of physical stocks into electronic accounts will take time. Singapore and Malaysia, for instance, require four to five years to convert all physical stocks into electronic accounts. Malaysia begun stock conversion into electronic accounts in 1993 and expects to end the process by the end of this year.
"Challenges will always exist. However, the pressure toward immediate implementation of scripless trading and book-entry settlement is equally great in order to improve the competitiveness of the JSX," Sumantri said. (rid)