29 TH OF J UNE , 2015 T ABLE OF C ONTENTS I NTRODUCTION - - PowerPoint PPT Presentation

(PRIVATE & CONFIDENTIAL)

DRAFT COMMITTEE REPORT SUBMITTED TO

THE DIRECTOR GENERAL SECURITIES & EXCHANGE COMMISSION ON

A UNIFIED LICENSING MODEL FOR

OPERATORS ACROSS MONEY & CAPITAL MARKETS

29TH OF JUNE, 2015

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TABLE OF CONTENTS

INTRODUCTION………………………………………………………………………………… 4 IMPACTING ECONOMIC DEVELOPMENT……………………………………………………….. 5 THE FUTURE OF BROKER/DEALERS…………………………………………………………… 9 OUR CURRENT MARKET STRUCTURE…………………………………………………………… 13 THE MALAYSIAN MODEL APPROACH…………………………………………………………… 16 THE CASE FOR UNIFIED DEALER LICENCE……………………………………………………. 22 THE CASE FOR A FINANCIAL MARKET DEALER/INVESTMENT BANK…………………………... 28 THE PROPOSED OPTIONS FOR UNIFYING CAPITAL & MONEY MARKETS …………………… 39 CONCLUSION & RECOMMENDATIONS…………………………………………………………… 42 THE COMMITTEE & CONTRIBUTORS…………………………………………………………….. 47

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INTRODUCTION

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INTRODUCTION

The purpose of this presentation is to consider the pertinent issues of having a Unified Licencing Model for operators across the money & capital markets. Though Merchant Banks provide a Unified Model, we explore the merits/challenges with the issuance of additional licences to expand the universe of participants across the money and capital markets.

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IMPACTING ECONOMIC DEVELOPMENT

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Generally speaking, all markets have two types of intermediation. 1. There is the:

• Bank based intermediation
• Capital market based intermediation

2. In Nigeria:

• Only bank based intermediation works efficiently
• Capital market based intermediation is much less efficient as operators face

significant challenges accessing wide sources of funding and thus have inefficient sales & trading operations or maturity transformation activities.

• 3. Merchant Banks are the only institutions currently allowed to operate across

markets

• This is a step in the right direction.
• However, the minimum capital requirements are prohibitive and exclude

the other key players regulated by SEC.

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THE IMPORTANCE OF INTERMEDIATION

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THE IMPORTANCE OF INTERMEDIATION

We need a major shift in our thinking to create an enabling environment which supports institutions’ ability to intermediate short, medium and long term securities across the entire financial markets. This is an important consideration for:

• Enhancing Financial System Stability.
• The entire financial market to begin to see real growth and add value to the

economy or significantly increase its % of GDP.

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15,000.00 25,000.00 35,000.00 45,000.00 55,000.00 65,000.00 Jan-08 Oct-08 Jul-09 Apr-10 Jan-11 Oct-11 Jul-12 Apr-13 Jan-14 Oct-14 Jul-15

• The stock market (a barometer of the economy) is underperforming:
• Index is approximately (50%) below 2008 levels, whilst other markets around the world

have recovered.

• There has been very limited primary activity, (as many stocks trade below book value).

WHERE ARE MARKETS TODAY

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THE FUTURE OF BROKER/DEALERS

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They are endangered species - Why?

• They face significant challenges in funding their businesses as they cannot easily

access the money markets.

• They cannot access formal repo markets for liquidity, and this adversely impacts

their sales & trading operations.

• Their equity trading businesses are also mainly small brokerage operations, and

market making is highly inefficient.

• The aforementioned significantly curtails the services they offer and the impact

they can have on economic development.

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WHERE ARE MARKETS TODAY INSTITUTIONS THAT ARE PURELY REGULATED BY SEC ARE NOT INVESTMENT BANKS BUT BROKER/DEALERS

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• The continued existence and viability of these businesses is threatened:
• How long can their businesses survive within the current market

structure and No access to wholesale funding.

• SEC-only regulated Capital market operators currently operate in

“silos” with limited access to the money markets which provide the base liquidity of all financial markets. Where different parts of the market are concentrated in silos, there are

• nly a handful of institutions that can create, price and trade instruments

across the curve hence, the impact on the economy is sub-optimal.

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WHERE ARE MARKETS TODAY

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• Market for equity capital is almost non-existent. Recent proposed IPOs and

rights issues have had to be shelved.

• Market price of shares listed on the NSE is generally below Net Book

Value.

• Private company mergers are extremely difficult to manage. Empirical

analysis available suggest they are more prone to failure than success – principally due to the number of firms that would have to merge where about 27 firms with capital of N550,000,000 will have to come together to form one Merchant Bank.

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INABILITYOFINSTITUTIONSTOSIGNIFICANTLYGROWORGANICALLYINTOSTRONG

INTERMEDIARIES

WHERE ARE MARKETS TODAY

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CURRENT MARKET STRUCTURE

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BACKGROUND TO OUR MARKET

The Nigerian capital market essentially operates in a silos of its own, cut off from the rest of the financial markets:

Money Markets DMB D.H / MB D.M.B D.H/MB NBFI1 (brokers), I.H2 NBFI/MB Broker/Dealer I.H Bond Markets Equity Markets

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1NBFI – Non-Bank Financial Institution 2I.H – Issuing House (For origination purposes)

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BACKGROUND TO OUR MARKET

If we plot these markets in risk/return/duration space, we should get:-

Money Markets Bond Markets Equity Markets Risk Premium Risk Premium Risk Premium

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THE MALAYSIAN APPROACH TO IMPROVING LIQUIDITY AND

STRENGTHENING THEIR DOMESTIC OPERATORS AND MARKETS

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P

ARADIGMSHIFT

They repealed the Securities Act 1983 (SIA) and the Futures Industry Act 1993 (FIA) and came up with The Capital Market and Services Act 2007 (CMSA) which introduced a single licensing regime for capital market intermediaries. Under this new regime, a capital market intermediary will only need one licence to carry on the business in any one or more regulated activities. This meant less cost and paperwork for the intermediaries who carry on more than one regulated activity. The licences are called: 1. Capital Markets Services License or 2. Capital Markets Services Representative’s Licence

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They then adopted seven types of regulated activities under CMSA. The list of regulated activities are: 1. Dealing in Securities 2. Dealing in Derivatives 3. Fund Management 4. Dealing in private retirement schemes 5. Advising on corporate finance 6. Investment Advice 7. Financial Planning The licence issued under the CMSA set out the specific regulated activities that the institution can conduct. Bank Negara Malaysia and Securities Commission then worked together on a framework for Investment Banks and Universal Brokers

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THECMSA

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Minimum capital requirement



To ensure that investment banks are well-capitalised, the minimum capital funds requirement for investment banks that are not part of banking groups will be set at RM500m, while the other investment banks would be required to comply with the requirement of RM2 billion on a group basis. Limit on foreign equity participation :



The foreign equity participation limit for investment banks will be increased to 49%. This is part of the overall efforts to strengthen their global linkages and enhance their specialised skills and expertise. This liberalisation also represents Malaysia’s commitment to further liberalise the banking sector.

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THEFRAMEWORK

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An Investment bank will then henceforth apply to the Securities Exchange for approval to carry on the full range of regulated activities under CMSA. In this case, the licence will indicate that the investment bank is allowed to carry on all of the following regulated activities: 1. Dealing in Securities 2. Dealing in Derivatives 3. Fund Management 4. Dealing in private retirement schemes 5. Advising on corporate finance 6. Investment Advice 7. Financial Planning And then, a merchant banking Licence from Bank Negara. It is the combination of the CMSL and MB licence that confers the status of an Investment Bank on an institution in Malaysia

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EST

ABLISHMENTOFINVESTMENTBANKS

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The Universal Broker was created as a bridge between Investment Banks and single or dual function brokers. It was done as part of measures to strengthen capacity & competitiveness of universal brokers, brokers that meet the eligibility criteria were then allowed to access the interbank market to undertake borrowing or lending Universal brokers are also allowed to borrow securities from the central bank via repo arrangements to enhance their securities brokerage activities and will be subject to examination by the central bank and the securities commission where appropriate.

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CREATIONOFUNIVERSALBROKER

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THE CASE FOR A UNIVERSAL DEALER LICENCE – REVAMPING SEC LICENCING MODEL

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REVAMPINGTHECURRENTSEC LICENCINGMODEL

The existing capital requirements for the core permitted activities are as follows:- 1. Broker/Dealer – N300m 2. Fund Management – N150m 3. Issuing House – N200m 4. Underwriter – N200m 5. Market Maker (Fixed Income) – N500m (Set by NSE) 6. Market Maker (Equities) – N500m (set by NSE) Total required capital

• N1.85bn (Therefore a fully fledged operation will

require approximately N2bn to operate) Non-Core are: Trustee - N300m and Registrars – N150m SEC can therefore consider the option of first unifying licences under its purview.

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REVAMPINGTHECURRENTSEC LICENCINGMODEL

SEC can therefore consider the option of first unifying licences under its purview. The Advantages are:- 1. Less paper work for both operator and regulator 2. Stronger balance sheet (consolidated) 3. Improved interaction with the other market counterparties 4. Creates a trajectory for institutions to grow Potential challenges 1. NSE – a broker/dealer need not be a separate legal entity/ Company Legal structure

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REVAMPINGTHECURRENTSEC LICENCINGMODEL The unification of our Licences can be achieved under 3 following groups:

• Single Dealer Licence – Issued to any institution that carries out one function e.g.

Registrar.

• Dual / Multiple Dealer Licence – Issued to any institution that carries out more than
• ne, but less than four, permitted activities e.g. Issuing House/Financial Advisory and

Broker/Dealer.

• Universal Securities Dealer Licence – Issued to any institution that carries out the five or

more of the key capital market functions 1. Issuing House 2. Underwriter 3. Financial Advisory 4. Broker/Dealer 5. Fund Management 6. Market Maker (FMDQ or/and NADQ or/and NSE – equities or fixed Income)

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REVAMPINGTHECURRENTSEC LICENCINGMODEL

• (It is however not essential that a company designated as a Universal

Securities Dealer operates as one legal entity. It can still operate a

• subsidiary. Licence goes to group and the group can designate the

subsidiary to operate the Licence. Returns to SEC should however come from the consolidated operations of the group).

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PROPOSED GROWTH TRAJECTORY FOR SEC ONLY REGULATED ENTITIES

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Capital Increase Dual /Multiple Licence

SEC only regulation

Universal Licence Single Licence

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THE CASE FOR A FINANCIAL MARKET DEALER/INVESTMENT BANK

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THECASEFORAFINANCIALMARKETDEALER/INVESTMENTBANKLICENCE

SEC mainly regulates the following 6 key functions (amongst others) 1. Issuing House 2. Underwriter 3. Financial Advisory 4. Broker/Dealer 5. Fund Management 6. Market Maker (NSE/FMDQ/NASD) The CBN mainly regulates two functions (save for commercial and other banks) 1. Merchant Bank 2. Discount House

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Capital market activities Capital & Money market activities

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There is a need to create additional financial intermediaries that can operate across financial market spectrum 1. The CBN can agree to repeal the Discount House Licence and re-issue a modified licence or variation under a new Money Market Dealer Licence. This will be in line with the Banks and Other Financial Institutions Act (“BOFIA”) Chapter B3 vol. 2 2004; which defines “other financial institutions” as any individual, body, association or group of persons; whether corporate or unincorporated, other than banks licensed under this Act, which carries on the business of a discount house, finance company and money brokerage and whose principal objective include… 2. The licence can be couched under Money Brokerage as stipulated in the Act. 3. The licence name change to Money Market Dealer better reflects the current regulated activities of the licence. (CBN can look to effectively rehash/rework the 2008 Revised Discount House guidelines – which was shelved prior to drafting of the merchant banking licence in 2009) 4. Its also very important to note that whilst the key singular role of a Discount House is

• bsolete (i.e. the discounting of bills on behalf of banks and act as an intermediary

between the central bank and other banks for the purpose of liquidity); the permissible activities of the license remain very relevant to financial intermediation and the workings

• f the money market.

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THECASEFORAFINANCIALMARKETDEALER/INVESTMENTBANKLICENCE

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A SEC regulated entity that already qualifies as a Universal Dealer who applies and receives a Money Market Dealer Licence from CBN can then write to SEC to be conferred as a Financial Market Dealer, or under BOFIA Section 43 (1) (b), seek CBN’s consent to be designated as an Investment Bank. Therefore, Institutions that hold the following 2 Licences each from SEC and CBN i.e. 1. Issuing House 2. Underwriter 3. Financial Advisory 4. Broker/Dealer 5. Fund Management PLUS 1. Money Market Dealer Licence from CBN Can then be designated a Financial Market Dealer/Investment Bank by SEC or CBN respectively. This will be a unified licence and such institutions will be jointly regulated by CBN and SEC under an MoU between the regulators. The licence should also allow the holders full dealership status on FMDQ.

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Universal Dealer Licence

THECASEFORAFINANCIALMARKETDEALER/INVESTMENTBANKLICENCE

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THE CASE FOR A FINANCIAL MARKET DEALER WHAT SHOULD A FINANCIAL MARKET DEALER BE ALLOWED TO DO?

Types of Assets The short to medium term nature of its funding sources and liabilities means that the assets it funds should also be predominantly short – medium term assets. (Asset/liability matching) Therefore the assets it can hold should be as follows

• Treasury Bills
• Treasury Certificates
• Negotiable certificates of deposits
• Bankers Acceptance
• Commercial Paper
• Asset Backed Commercial Paper
• Asset Backed and Mortgage Backed Securities
• Corporate Bonds and Notes
• Federal Government Bonds
• State and Municipal Bonds
• Equities for NOT more than 5 days (Trading Purposes ONLY)1
• Any other securities that may be from time to time approved by the CBN/SEC.

1Restricted to Top 30 most liquid stocks – Market Making Only (Max 5% of assets) – see risk management

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Equity

• Paid up capital plus reserves

Liabilities

• Call Money and short term borrowings
• A FMD that is short of funds must be able to:
• Obtain from the CBN an overnight advance against acceptable collateral
• Sell short term AAA rated assets to the CBN for the CBN to provide rediscounting facilities for treasury

and other eligible securities

• Enter into repurchase transactions with CBN using eligible securities
• Have a CBN account
• Have access to the interbank market

Finally, at all times an MMD must maintain not less than 60% of total assets in liquid securities. Terms & conditions will apply to the issuance of the licence to be agreed by CBN & SEC

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THE CASE FOR A FINANCIAL MARKET DEALER WHAT SHOULD A FINANCIAL MARKET DEALER BE ALLOWED TO DO?

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THECASEFORAFINANCIALMARKETDEALER

Equity Market Making1 Fixed Income Market Making Broker/Dealer Fund Portfolio Management Commodity Dealers - others Money Market Dealer Regulated by CBN Universal Dealer - Regulated By SEC In – Time Issuing Houses Financial Advisory Underwriting The advantage of the proposed unified model to regulators

Fig 4

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1Optional and to be jointly regulated by SEC with oversight from the CBN

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• We propose that the MMD licence have a capital requirement of N3bn due to the quality of assets and the

stipulation of no less than 60% in liquid assets which will have 0 Risk Weighting for CAR purposes.

• The capital will be in addition to that of a Universal Securities Dealer Licence of N2bn making the combined

capital requirement of N5bn.

• Single Obligor limits, VAR, and credit risk buckets should be used to manage risk with daily returns to the

regulators.

• The Money Market Dealer licence should have qualities similar to that of the moribund discount house

guidelines (2008).

• Other restrictions will also apply for licencing purposes.

We propose a strict capital/leverage/asset/funding framework to be monitored by both the CBN and SEC. Other reasons for a lower capital threshold for the FMD are:

• Non deposit taking institution
• Cannot advance loans as risk assets (illiquidity – Higher risk weightings)
• Purely institutional funding
• Very Liquid balance sheet
• Operations are for pure securities intermediation

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THE CASE FOR A FINANCIAL MARKET DEALER CAPITAL REQUIREMENT

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THE CASE FOR A FINANCIAL MARKET DEALER SAMPLE CAPITAL COMPUTATION AND RISK MANAGEMENT

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Credit rating Maximum W.Ave Leverage Maximum Assets 20.00x 60,000,000,000.00

• Est. Returns

Buckets AAA 21,600,000,000.00 12.75% 36.00% AA 14,400,000,000.00 13.50% 24.00% A 12,000,000,000.00 14.50% 20.00% BBB 9,000,000,000.00 16.00% 15.00% N/R 3,000,000,000.00 25.00% 5.00% Capital 3,000,000,000.00 14.38% 100.00% 8,628,000,000.00 7,500,000,000.00

• Ave. Funding Costs

12.50% Net Spread (turnover not included) 1.88% 1,128,000,000.00 Credit protection Credit rating Single Obligor Limit Single Obligor Amount AAA 25.0% 5,400,000,000.00 AA 20.0% 2,880,000,000.00 A 15.0% 1,800,000,000.00 BBB 12.5% 1,125,000,000.00 Mainly Equities Not Rated 2.0% 60,000,000.00 10% 5 Def Prob Loss Severity Total Expected Loss VAR per Obligor Total VAR Risk Weighting % Risk Weighting Amount AAA 5% 5% 0.25% 13,500,000.00 54,000,000.00 0% 0.00 AA 10% 10% 1.00% 28,800,000.00 144,000,000.00 8% 1,152,000,000.00 A 20% 15% 3.00% 54,000,000.00 360,000,000.00 8% 960,000,000.00 BBB 25% 20% 5.00% 56,250,000.00 450,000,000.00 8% 720,000,000.00 Not Rated 50% 50% 25.00% 15,000,000.00 750,000,000.00 8% 240,000,000.00 167,550,000.00 1,758,000,000.00 3,072,000,000.00 17.91x 1.71x 98%

Maximum Loss per day for Equities Number of Days held The AAA bucket can be 100% Expected VAR during holding period ob average 5 days Expected net profit Capital Cover Capital Cover Estimated Unadjusted CAR

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PROPOSED TRAJECTORY FOR OPTION 1

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Single Licence Capital Increase Multiple Licence

Joint regulation SEC & CBN SEC only regulation

FMD

UDL & MMDL

Universal Licence Merchant Bank Licence

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PROPOSED TRAJECTORY FOR OPTION 2 (SUBJECT TO CBN)

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Single Licence Investment Bank Licence Universal Licence Capital Increase Merchant Bank Licence Multiple Licence Joint regulation SEC & CBN SEC only regulation

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THE PROPOSED OPTIONS FOR UNIFYING CAPITAL & MONEY MARKETS

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Financial institution submits application for Money Market Dealer Licence & Universal Dealer licence to central bank and securities exchange Financial institution to apply for membership of other dealing platforms e.g. NSE Financial institution to surrender all existing licences to SEC The Securities exchange issued a Universal Dealer licence to institution Central Bank issues MMBD licence to Institution FMD/IB pays fees + Capital (where required) FMD/IB pays fees (where required)

THEROADTOBECOMINGAFINANCIALMARKETDEALER/ INVESTMENTBANK

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PROPOSEDOPTIONSTOBEEXPLORED

1. A new Financial Market Dealer designation to be jointly conferred by SEC and CBN to represent a bridge across the Money and Capital markets. The holder must have received a Money Market Dealer Licence issued by CBN under BOFIA Section 66, “Other financial institution” under the category of Money Brokerage and a Universal Dealer Licence from SEC. 2. Or under the BOFIA Act CAP.B3 Vol.2 section 43 (1) (b), CBN can designate the combination of an institution holding a Money Market Dealer Licence issued by CBN and a Universal Dealer Licence from SEC as an Investment Bank. 3. Or a new institution can also be created under the BOFIA Act CAP.B3 Vol.2 section 66, specialized banks, - which allows CBN to add Investment Bank to its list of specialized banks.

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CONCLUSION & RECOMMENDATIONS

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OURPROPOSEDRECOMMENDATION 1. A unified Universal Securities Dealer Licence should be issued by SEC to operators that operate across the five core capital market activities – Issuing House, Underwriting, Financial Advisory, Broker/Dealer and Asset Management. 2. A new Money Market Dealer Licence to be issued by CBN that will represent a bridge across the Money and Capital markets. 3. The two Licences, Unified, will then be designated a Financial Market Dealer by SEC or designated an Investment Bank by CBN (subject to CBN under BOFIA Section 43 (1) (b)). The institution will be jointly regulated by both regulators.

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APPENDIX I – REGULATING THE ENTITIES (CAPITAL COMPUTATION)

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POSSIBLE REGULATORY MODELS

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B is a 99.9% subsidiary of A – in this case, the shareholding of the MMB in the UD cannot be capped as in the current DH Licence – some of the changes to make to reflect operating realities

(A) Money Market Dealer

(B) Universal Dealer

Regulated by CBN Regulated by SEC Designated as a Financial Market Dealer or Investment Bank (subject to CBN)

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POSSIBLE REGULATORY MODELS

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First Securities Discount House FSDH Asset Management Pension Alliance FSDH Securities

Money Market Securities Trading Trading in Longer Term Fixed Income Securities 99.7% owned Asset Management Collective Investment Schemes Unit Trusts Mutual Trusts 99.9% owned Issuing House Broker / Dealer Portfolio Manager Investment Adviser Equity Trading 51% owned Pension Fund Management & Administration

Regulated by the CBN

Regulated by the SEC Regulated by the PENCOM

• As noted , the

activities of FSDH, arguably one of the most successful of all discount housing groups mirrors the proposed structure and proves that the structure as proposed already works.

• In this case, the

group is jointly regulated by CBN, SEC and PENCOM

An example of a regulatory model that has worked well in the past

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THE COMMITTEE AND CONTRIBUTORS

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COMMITTEE MEMBERS

SEC COMMITTEE MEMBERS

• MR. SONNIE AYERE

COMMITTEE CHAIRMAN AND CHAIRMAN DUNN LOREN MERRIFIELD AND 1ST VICE CHAIRMEN AIHN

• MR. KAYODE AKINKUGBE

COMMITTEE MEMBER AND CEO FBN CAPITAL

• MR. AKEEM OYEWOLE

COMMITTEE MEMBER AND CEO STANBIC IBTC ASSET MANAGEMENT

• MR. ROTIMI TETEYE

COMMITTEE SECRETARIAT AND STAFF OF SEC

• MR. SUNDAY GARBA

COMMITTEE SEC CO-ORDINATOR AND STAFF OF SEC OTHER CONTRIBUTORS MR VICTOR OGIEMWONYI – MD/CEO PARTNERSHIP INVESTMENT CO. (AIHN CHAIRMAN) MR IKE CHIOKE – MD/CEO AFRINVEST MRS OLUWATOYIN SANNI – GMD/CEO UNITED CAPITAL GROUP MR CHUKA ESEKA MD/CEO VETIVA (AIHN 2ND VICE CHAIRMAN)

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THANK YOU

AND

GOD BLESS THE FEDERAL REPUBLIC OF NIGERIA.