In this write-up Chris Ugwu examines current efforts by the Nigerian Stock Exchange to rebuild the nation’s capital market through market makers
Almost a decade before the financial meltdown, the Nigerian capital market witnessed unprecedented growth occasioned largely by financial sector reforms, notably recapitalisation of banks and insurance companies.
In that period of unprecedented upsurge, Exchange’s aggregate price indicator, the All Share Index, ASI increased at an average 37 per cent annually with a record high of about 75 per cent in 2007.
The trend continued till March 2008, when the indicator attained 66,000 basis points from about 8,000 (basis points) recorded in year 2000 indicating a growth of over 700 per cent.
With the impressive record during those hay days, market attained the lofty distinction as the leading emerging market in terms of growth and return on investment.
The downturn like a bolt from the blues propelled a drastic southward movement of all key market performance indicators exemplified by the price index which plummeted to below 20,000 basis points in March 2009, from a summit of 66,000 basis points at the same time in the previous year.
The significant reverses which befell the Nigerian capital market with the meltdown in the global financial system are still here with us as many institutional investors and individuals are still leaking the wounds of the losses of their investments.
The dwindling fortunes and the continuous volatility being witnessed in prices of shares occasioned by the global financial meltdown and crisis of confidence following lapses on corporate governance were considered detrimental to investors’ interest and have created massive negative publicity for the market.
Though the regulatory authorities took considerable measures, some of which are commendable while some others could only be taken as a smoke screen or a mere chasing shadows, the current effort to address the situation, through finally appointing market makers to inject liquidity into the market is seen by some observers as an action which touched at the core of the problem which have been long awaited. The stock market meltdown took an alarming dimension because of the absence of market makers.
Who is a market maker?
A market maker is a dealing firm who maintains firm bid and offer prices in a given security by standing ready to buy or sell that security.
All over the world, market makers play a very prominent role in both the equity and bond markets. They stabilise the market by standing ready to intervene at moments of scarcity or excess supply of securities. It is naïve, unrealistic and detrimental to investors to operate an automated stock market without the active participation of market makers.
The Nigerian bourse and the apex market regulator, the Securities and Exchange Commission (SEC) had in 2009, during the administration of Professor Ndi-Okereke Onyuike, released common criteria for licensing of market makers in Nigeria. The criteria, ostensibly a response to the current global financial meltdown, were formulated to be a part of a composite strategy to brief relief to investors and prevent a total meltdown of the stock market.
Among other things in the criteria, was the company, wishing to be a market participant, or market maker, must have a minimum paid-up capital of N2billion, in addition to being able to maintain a minimum float of N10billion at all times.
However, the Securities and Exchange Commission (SEC) had in 2009 introduced market makers to help provide the much needed liquidity in the market to enhance the trading activities in the stock market.
To this end six firms were registered as market makers namely, Chapel Hill Denham, Diamond Capital & Financial Market Limited, a subsidiary of Diamond Bank Greenwich Advisory Services, a member of the Greenwich Trust Limited, BGL Limited, Value Capital Limited and Vetiva Management Limited.
Meanwhile, since the registration, operators noted that nothing feasible happened as these market makers were yet to commence their roles, adding that the full operation of this rescue initiative was urgently needed to boost the market.
But the Nigerian Stock Exchange said that the market makers would not commence operations without evidence of liquidity providers and licenses from the NSE.
Okereke-Onyiuke, stated that all companies desirous of becoming market makers must demonstrate to the NSE that they are proficient in capital market activities and must provide evidence of a liquidity provider such as a bank, adding that without the provision of a liquidity provider, such companies would not be licensed as market makers.
Efforts of the present administration
In a bid to find ways to reduce the glut in the market, the NSE had last year re-embarked on the market maker programme as one of the major strategies aimed at increasing investors’ confidence, deepening the market and addressing lack of liquidity in the market.
However, strong indications had emerged a couple of months ago that the Nigerian Stock Exchange (NSE) would give licenses to 10 of its dealing firms to act as market makers as part of efforts to improve liquidity in the market.
According to reports, the indication came at a meeting the Chief Executive Officer of NSE, Mr. Oscar Onyema, had with chief executive officers of dealing member firms of the Exchange.
It was gathered that series of meetings have been going on between the Exchange and the operators who applied to be market makers.
However, sources at the meeting held with Onyema said the Exchange was considering registering 10 market makers in the first instance.
“From what the NSE boss said, only 10 market makers would be appointed for now and we believe this will be done very soon.
One point that was clearly made was that the market makers would be fresh applicants based on the revised guidelines of the Exchange”, a source at the meeting said.
However, the exchange made due its promise as another milestone was recorded in the Nigerian Capital Market as the Bourse announced the names of the Market Makers on the trading floor of The Nigerian Stock Exchange (NSE).
The unveiling of the 10 companies selected was described by the Chief Executive Officer of the Exchange, Mr Oscar Onyema, as a major landmark at bringing back liquidity and depth into the second largest market in sub-Saharan Africa.
According to the NSE CEO “This is a great milestone and a major step in the direction of turning the market round to have liquidity and depth back into the market. We will continue to move forward on this”.
The 10 Stockbroking firms selected from a list of 20 that applied were: Stanbic IBTC, Renaissance Capital, Future View Securities, Vetiva Capital, ESS/DunnLoren Merrifield, WSTC, Capital Bancorp, FBN Securities, Greenwich Securities and CSL Stockbrokers.
According to Onyema, “The companies selected went through a very rigorous process and met the minimum net capital requirement of N570 million. We also examined their compliance history and looked into their operational capabilities including their technology and processes”.
“The selected firms were taken through trainings, debated the appropriate market structure to be used and the Exchange further went through the approval of the Securities and Exchange Commission (SEC) in the selection process”, added Onyema.
A major highlight of the unveiling was the selection of a basket of quoted companies in which the financial intermediaries would provide the desired level of liquidity via a blind draw.
The primary obligation of the Market Maker is to always make a two-way price in each of the stocks in which they make markets.
The Exchange also promised that a number of firms will be selected to perform a supplementary Market Making role at a future date.
Some dealing members of the Nigerian Stock Exchange (NSE) agreed that the development will help mop up the excess shares on offer in the system and help galvanise market investors back to the market.
Apart from ensuring that the market makers have the capability to perform the role, some of the brokers also advised that the regulators should ensure that rules guiding market making were well enforced.
They identified establishment of market makers as a major factor that could stem the tide of the persistent fall in share price and ensure sustainable market stability, adding that the commencement of market making in the Exchange is a step that would improve activities significantly in the second quarter, the analysts further stated.
According to the analysts at the Meristem Nigerian Limited, the major market indicators including the NSE Index and the market capitalisation of the listed shares are expected to rise this quarter once market making begins in the market.
The analysts in their recent report said that the activities of the market makers were expected to boost the market and ensure increased investor participation in the market.
“With the recent selection of ten stock-broking firms to carry-on market making activity, their role is critical to ensure moderation in price volatility. Hence, in our consideration for the market outlook in the second quarter, the buffer responsibility of the market makers in the provision of liquidity for specified stock is of utmost importance.
“It is important to note that the missing link on the Nigerian bourse has been demand, which has been largely responsible for most of the losses recorded, but with the introduction of market makers into the market, it is expected that they would help to drive liquidity” they said.
The Chief Executive Officer of Lamberth Securities Limited, Mr. David Adonri said establishment of market maker will help put the nation’s fledging capital market on the part of stability.
He noted that market makers would achieve this by mopping up excess supply of shares while simultaneously supplying same stock in event of scarcity within the trading period.
He explained that market making is a trading method whereby a stock trader quotes two prices simultaneously (buy and sell) for the same security and within the same period, when prices get to buy price, he buys and when it gets to sell price he sells.
The intervention, according to him prevents wide price volatility in the market thus ensuring sustainable stability.
“It is true that market makers can stabilise the market but they operate under a quote driven market structure in contrast to the order driven structure we currently operate at NSE. Our current trading system on the NSE is order driven. Here, every trading Stockbroker is either buying or selling stocks without obligation to buy or sell if the prices get to particular limits. The Stockbroker buys or sells at the prevailing market price.
“In a quote driven system, few stockbrokers are appointed as Market makers who quote two prices for the same stock and are under obligation to buy and sell if the prices get to the quoted prices. For instance, the Market maker for First Bank shares can quote buying price of N10.80 and selling price of N11.10 simultaneously.
He added, “If the price falls to N10.80 he is under obligation to buy all the quantities supplied to prevent the price from falling below N10.80.
Simultaneously, if the price rises to N11.10, he is under obligation to supply all the quantities demanded to prevent the price from rising above N11.10. By this action, the Market maker prevents price volatility and ensures continuous liquidity in the market thus stabilising the market”, he said.
A Marketing Consultant on the condition of anonymity who commended the regulators for appointing the market markers said the action will bring back the market to its place of capital formation.
He noted that the operations of market makers are urgently needed in the stock market, especially at a time like this when investors’ confidence is eroded.
He explained that market makers would contribute to market stability by checkmating the uncontrolled downward fall of selected stocks.
According to him, this group of people would be buying when such stocks reach their support level and sell later when they go up.
He added that this will help curtail the free fall of some stocks being witnessed currently in the market.
Market makers will help the Nigerian stock market to develop better and faster because, besides promoting stability they also increase liquidity, engender confidence, reduce transaction cost and give depth to the market. And all these are virtually everything the market needs to forge ahead.
The new development will also create world class capital markets that will fund business expansion and new opportunities and provide governments with long term funds for financing infrastructure and other important projects that transform economies.