Saving The Share Market
By Charitha P. de Silva
With the disastrous decline in the share market and the recent revelations of a ‘Mafia’ that has been having a field day making billions by Insider Dealings, Market Manipulation, Front Running and various other violations of SEC Regulations, the time has come for the government to re-assess its policies. The first thing to do is to stop putting the blame on others such as the Tamil Diaspora, Western Conspiracies, Regulators, Hob-Goblins and so on. The government has to realize that apart from external factors beyond its control, the decline is largely attributable to a market correction from the unrealistically high levels to which the Manipulators had pushed share prices (making fortunes for themselves in the process).
Instead of trying to put the blame on the Regulators for attempting to curb the Manipulators, the government should protect and strengthen them by giving them more teeth and the freedom to fulfil their duty of regulating the share market and protecting investors. They have two functions: to regulate and promote, and there needs to be a delicate balance between these two. The screams of the Mafia that there is over-regulation that has been the main cause of the market decline should be ignored for two reasons: firstly such a defence would be the natural reaction of wrong-doers, and secondly it is manifestly not the reason for the decline, as all honest cognoscenti would confirm. They will also go on to say that one contributory factor to the decline is the activity of the Mafia itself that has resulted in a loss of confidence in the integrity of the Share Market.
The latest action of the Government in forcing the resignation of the second upright Chairman of the SEC within a year has done nothing to restore this shaken confidence. Very few people would believe that a person of Thilak Karunaratne’s calibre would succumb to direct pressure from the Mafia itself. Without a widespread perception of integrity in the Share Market it is futile to imagine that it will be restored to its former glory until the government is seen to change its policies that have resulted in the present situation.
If anything can restore confidence in the share market it would be the vigorous investigation of known wrong-doers and their prosecution. Prosecutions, followed by convictions, have been singularly lacking in the past. ‘Compounding’ has been the order of the day. This is something that differentiates our market from well-regulated markets in the West. Regulatory authorities in the West do not shy away from jailing wrongdoers. It is recognized as the only effective deterrent to criminal behaviour. Fines of millions when one has made billions are no deterrent; they are mere irritants. Something that could go a long way to bolstering share prices would be a general all-round increase in dividend payouts. If all companies were to emulate companies such as John Keells and Nestles that have had payouts in excess of 50%, it would give a palpable boost to the Share Market. However the world is such that exhortations to virtue alone do not work. They have to be backed by penalties or deterrents to bad behaviour.
Good behavior is the essence of the Code of Conduct of the Ceylon Chamber of Commerce, first formulated in 1982. That made it clear that Boards of Directors are obliged to pay annual reasonable dividends to their shareholders if they are in a position to do so. A recent Commercial High Court judgment has found a company guilty of violating Section 224 (Oppression of Minorities) and 225 (Mismanagement) of the Companies Act by failing to declare dividends when it was able to do so.
The way to persuade companies to declare bigger dividends is to penalize them if they do not do so. The President, as Minister of Finance, introduced in 2006 a Deemed Dividend Tax that did exactly that. It had the desired effect of bringing about an immediate increase in the dividend level and giving a palpable boost to the Share Market. However in the course of time the Ministry of Finance succumbed to pressures and the Tax was emasculated. In the desperate situation that we are in now, the Government should have the courage to re-introduce a cure that worked before; but with an enhanced benchmark level of either 33 1/3% or 25% for dividend payouts, depending on how important the government considers the rehabilitation of the Share Market. There will be the usual howls of protest from interested parties (just like the recent howls from the Mafia) but the government should ignore them for two reasons: firstly no company that is observing the Code of Conduct of the Chamber and behaving ethically would become liable to the tax, and secondly all minority share holders would be deeply grateful to the government. It would, in other words, be a popular move that would gain political capital. There is a current theory that shareholders are not interested in dividends but only in capital appreciation. I have disposed of that fallacy in another article “Dividends or Capital Appreciation; or Both?” I might mention here that it is the culture of the Fast Buck that has made the pursuit of capital appreciation by Market Manipulation so seductive. Investors should not be compelled to sell their shares in order to get any benefit from them. Capital Appreciation is of no value until the shares are sold.
There are many investors who are averse to selling their shares but would like them to be a permanent source of steady annual income. That is what a former President of this country had in mind when he dreamt of Sri Lanka becoming a ‘Share Holder Democracy’. Such a Democracy would imply a long-term commitment not speculative trading that is at the root of today’s ills. This Government has the power to achieve this dream; if it can summon the courage to do what is required.