Message from Managing Director, PSX

The bidding for PSX's 40% equity stake by local and international investors took place on December 22, 2016. Based on the results of the bidding process, the Chinese Consortium submitted the highest bid @ Rs 28 per share and as a result is acquiring the 40% equity stake in PSX. The said Consortium comprises of three Chinese exchanges, ie China Financial Futures Exchange Company Limited, Shanghai Stock Exchange, Shenzhen Stock Exchange and two local financial institutions, ie Pak China Investment Company Limited and Habib Bank Limited.
Divestment of 40 percent strategic stake in Pakistan Stock Exchange This landmark achievement would not have been possible without the laudable efforts of the Government of Pakistan that enabled economic and political stability in the country to attract foreign capital for the said divestment process. Equally important, the Securities and Exchange Commission of Pakistan (SECP), under the able leadership of Chairman Zafar Hijazi, played a pivotal role by providing appropriate regulations which served as an impetus in attracting foreign strategic investors. Improved stock market performance and changes in the operations and structure of the Exchange over the last few years was also a strong reason for the success of the said divestment.
Roadmap and the Process of Divestment
The roadmap for divestment of the 40% strategic stake in the Pakistan Stock Exchange was provided by the Stock Exchanges (Corporatization, Demutualization and Integration) Act, 2012. The purpose of the said Act was to set the foundation for improved governance, transparency and operational efficiency of the stock exchanges in order to serve investors better and protect their interest while enabling businesses to source long term funding for growth from the capital market and thus foster higher economic growth in the country.
Subsequent to Demutualization and corporatisation, a Memorandum of Understanding (MoU) was signed between the Demutualization Committees of ISE, KSE and LSE in 2015 to integrate the operations of LSE and ISE into KSE and rename KSE as Pakistan Stock Exchange Limited (PSX). The SECP approved the integration plan which was also approved by Competition Commission of Pakistan (CCP). Operations of the three stock exchanges of Pakistan were integrated into Pakistan Stock Exchange Limited (PSX) on January 11, 2016.
The SECP subsequently constituted Divestment Committee (Committee) with mandate to oversee and complete the process of divestment of up to 40% equity stake of PSX to local and/or international investors. The Committee invited Expression of Interest (EOI) and seventeen EOIs were received by PSX. The Committee reviewed and forwarded the EOI's along with its comments to the SECP.
Purpose and Impact of Divestment
Although the former Karachi Stock Exchange was incorporated in 1949 and later the Lahore and Islamabad Exchanges also came into being, the investor participation in the capital market of Pakistan remained low. For example, the investor base of Pakistan remains at 0.2% of the population versus just under 2.0% in India and over 8.0% in Malaysia. Similarly, the market capitalisation to GDP ratio in Pakistan is 30% versus nearly 80% in Thailand and over 40% in Indonesia indicating that the local corporate sector was still not using the capital market for its funding needs as much as companies in other jurisdictions. The debt side of the market remains very nascent even now. Further, while the liquidity of the market has improved recently with Average Daily Value Traded reaching over US$200 million in December 2016 as against less than US$100 million in December 2015, given that Pakistan market is still largely a cash market, the room for significant growth in liquidity is large if appropriate products including derivatives are introduced within a proper risk management regime.
There were several objectives for initiating the divestment process for the 40% equity stake of PSX. First, the narrow investor base of the stock market needed to be significantly expanded. A strategic investor with experience of operating in larger markets would be able to provide direction and lead in this endeavour. Second, market liquidity had to be enhanced. The strategic investor was expected to fast track the roll out of various products including derivatives that would enable greater liquidity generation. Next, by joining hands with international partners, Pakistan market would move towards greater integration with global capital markets thus improving both international investor base as well as opening up opportunities for domestic companies to source capital from other markets. Finally, it was felt that there was a need to further upgrade the technology platform of PSX in line with advances in trading and related technologies in other jurisdictions.
Potential Investors' Perspective
While the above reasons prompted the selling shareholders to initiate the divestment process with encouragement from the Apex regulator, it is worthwhile considering why a strategic investor would be interested in investing in PSX. Given the catch-up potential with regional markets there is no doubt the upside to market liquidity, investor base and listed capital is huge with the right mix of product suite, marketing initiatives and international participation. Organisational streamlining and realignment also provide near term opportunities for raising efficiency, customer reach and increase in revenues of the Exchange.
In a study by Ernst & Young a while ago covering emerging markets, it was shown that when a country's per capita GDP reached around US$2,000 one of the fastest growing segment of the economy for the next decade was the financial services sector. Given that Pakistan's per capita GDP is near US$1,700 and in PPP terms has already crossed well over US$2,000 the tipping point for accelerated growth of financial sector, including the capital market, has arrived.
Thus, timing wise this is indeed an opportune moment to invest in PSX which effectively represents the capital market of the country. Beyond the broader dynamics noted above, the CPEC (China Pakistan Economic Corridor) initiative is a very specific factor that is expected to positively impact the capital market both directly and indirectly. For the first time, due to the CPEC initiative, per capita investment in Pakistan's economy will rise sharply in the next several years. Both public sector and private sector investment activity has picked up very sharply in FY16 versus last few years and this is expected to rise further in FY17 and FY18. There is expectation that not just equity cash calls from the capital market will rise significantly but debt side of the market is also likely to get a boost from infrastructure bonds. Therefore, from the strategic investors' perspective investment into PSX is indeed an attractive proposition.
The PSX's KSE-100 Index increased by 40% from in 2016, making Pakistan the best performing market in Asia and is among the top few markets in the world to have shown a return of 30% or higher in US dollar terms in 2016. Going forward, a key development in CY2017 will be the formal inclusion of the Pakistan market in MSCI's emerging market index by June, 2017. As this occurs and there is likely to be increased allocation to the Pakistan market by passive investors (Index funds) which would translate into new portfolio investment inflows into PSX.
In conclusion, the divestment of the strategic stake in PSX is a milestone development for the Pakistan capital market and heralds a new era of development and growth of this important plank of the country's financial sector. At the same time, this transaction demonstrates the increasingly close economic and financial relationship between Pakistan & China.