Securities Services Bill: briefing

Meeting report

FINANCE SELECT COMMITTEE; FINANCE PORTFOLIO COMMITTEE: JOINT MEETING
12 August 2004
SECURITIES SERVICES BILL: BRIEFING

Co-Chairpersons: Mr T Ralane and Dr Rob Davies

Document handed out:
National Treasury: Presentation to PC Finance on Securities Services Bill
FSB: Presentation to PC Finance on Securities Services Bill
Securities Services Bill
The IOSCO principles of securities regulation

Related document:
Speech by Director General of the National Treasury - Lesetja Kganyago: "Reuters Economist of the Year" award ceremony11 August 2004. "South Africa as a financial centre for Africa"

SUMMARY
The Bill strives to maintain a healthy balance between investor protection and the enhancement of international competitiveness of securities services in the Republic. It will bring South Africa's securities legislation on par with international best practices. It aims to promote confidence and the maintenance of a stable securities market environment. Any person may apply for an exchange licence. Off-market transactions in listed securities are allowed between financial institutions on condition that they transact with each other as principals. There is no requirement that a person or institution has to be licensed or approved before carrying on the business of buying or selling unlisted securities.

Any person can now commit the offence of insider trading. A 'person' is defined to include a trust. The defence that an insider "would have acted in the same manner even without the inside information" has been removed. A new defence has been introduced: "the insider only became an insider after he or she had given instruction to deal to an authorised user, and the instruction was not changed in any manner after he or she became an insider".

MINUTES
Ms S Anderson (Director: Financial Markets -Treasury) presented on development of South Africa's financial markets (see PowerPoint presentation). South Africa's first Stock Exchange was opened in 1881 in Kimberly. The Johannesburg Stock Exchange (JSE) was founded in 1887. At some stages South Africa had twenty-four stock exchanges. Uniform rules for all stock exchanges were created in 1890. The first Act to regulate stock exchanges was passed in 1947. It was only in 1956 that the government started to perform any meaningful oversight or regulatory functions in terms of the Stock Exchanges Act. The Financial Services Board was established in 1991. This marked a new era in the regulation and oversight applicable to the markets.

Mr J Dixon (Chief Director: Financial Sector Policy - Treasury) focused on positioning South Africa as a financial centre for Africa. His presentation was based on the speech by the Director General of the National Treasury - Lesetja Kganyago at the Reuters Economist of the Year award ceremony.

Mr R Barrow (Financial Services Board: Deputy Executive Officer) focused on the background, ambit, objects, application, prohibitions, structure and general provisions of the Bill (see presentation document).

The Policy Board had conducted a review of the regulatory framework relating to the markets and concluded that the legislation was outdated. It also found that there was a number of legislation covering similar topics. A question was also raised whether South Africa complied with international best practices. South Africa tries to comply with internationally accepted practices as opposed to best practices. It does not seek to be better than the markets it competes with. If one tries to be heavier handed with regulation, one is likely to drive trade away. Israel had a very vibrant and developing market. They set about creating an environment that they believed would be a world leader with regard to standards of regulation. This had the unintended consequences of driving traders away. In drafting the Bill, cognizance was taken of the International Organization of Securities Commissions (IOSCO) objectives and principles of securities regulation and other regulatory practices.

The Bill seeks to increase confidence in South African financial markets and promote international competitiveness of securities services in the country. It applies to a number of activities and persons.

The Bill provides for the establishment of an Enforcement Committee with the power to impose an administrative penalty on, or to require the payment of compensation (only in respect of insider trading) by a person who contravenes or fails to comply with the Bill.

Mr N Muller (Financial Services Board: Head-Capital Markets) dealt with Chapter 2 to 8 of the Bill. Any person may apply for an exchange licence. Exchanges are subject to same basic requirements. However, the registrar may determine the extent to which an applicant for a licence must comply with those requirements. The applicant must have insurance, a guarantee or compensation fund or other warranty to enable it to provide compensation to clients of authorized users. Off-market transactions in listed securities are allowed between financial institutions on condition that they transact with each other as principals. Such transactions should be reported within 24 hours. There is no requirement that a person or institution has to be licensed or approved before carrying on the business of buying or selling unlisted securities.

The Bill requires the Registrar to prescribe a code of conduct. It also prescribes basic principles for the code. The code is binding on authorised users, their offices, employees and clients.

Mr D Govender (Senior Forensic Investigator for Insider Trading) dealt with market abuse. Any person can now commit insider trading. A person is defined to include a trust. The defence that an insider "would have acted in the same manner even without the inside information" has been removed. A new defence has been introduced: "the insider only became an insider after he or she had given instruction to deal to an authorised user, and the instruction was not changed in any manner after he or she became an insider". The defence that an insider was acting on specific instructions from a client is now available only to authorised users. The penalties for prohibited practices and insider trading have been increased to a fine not exceeding R50m or imprisonment for a period not exceeding 10 years, or both a fine and imprisonment.

Discussion
Ms B Hogan (ANC) asked how the requirement that off-market transaction on listed securities should be reported would affect transparency on exchanges. She also asked for examples of listed securities in which financial institutions can trade amongst themselves.

Mr Barrow replied that all listed shares had to be traded through an approved exchange. The big institutions correctly asked what gives the JSE the right to be the sole trader. If for example, Old Mutual and Sanlam agree to trade in certain securities, why did this have to go through a stockbroker who then was entitled to a commission. The JSE does not have a monopolistic right to trade in listed securities. The law should not prevent institutions from trading between themselves. The issue then becomes how to monitor such trading. Hence the requirement that it should be reported within 24 hours. The Financial Services Board (FSB) must ensure that the trade was done in realistic prices. One is concerned that there might be manipulative trading between them. One is dealing with listed securities and there is a need for the market to know the extent to which securities trade. People trade in securities when they know that there is a market for them. The 24 hour-period was debated extensively and it was agreed that it is acceptable.

Ms R Taljaard (DA) noted that there are already tensions about the prominence or dominance of South Africa in many of the African Union, NEPAD and Pan African Parliament institutions. Although the proposal to position South Africa as the financial centre for Africa is sensible, there are issues relating to financial diplomacy policy that need to be discussed. Such issues go beyond the details of the Bill. She asked the presenters to comment on this.

Also there was the issue of companies that could come for inward listing being bound by the King 2 report. The King report and other corporate governance regulations form an interwoven tapestry. Although one can rely on the report and other listing requirements to ensure that the same set of standards would be applied in respect of inward listing, one cannot ensure that the interlocking network of regulatory provisions are necessarily going to be such in respect of these companies. Or that the information that is going to be at the disposal of the average investor is respect of inward listing is necessarily going to be satisfactory. She asked how one could address such a fundamental challenge to the vision in a coherent and diplomatic fashion.

In reply, Mr Barrow found it difficult to respond to the issue of South Africa's dominance in Africa. He agreed that there is a need to debate it on a different level. The Bill does not change anything other than to enable trade to take place throughout Africa.

With regard to foreign companies complying with the King code, he said that there should be compliance with listing requirements. Companies would have to satisfy the listing authorities that they have fully complied with the corporate governance and auditing standards. There has been a lot of interaction between the FSB and regulators of various markets, particularly in the Southern African Development Community (SADC) region. Attempts are being made to harmonize regulatory standards throughout the region. The Stock Exchanges in the region have also been interacting with each other.

Mr K A Moloto (ANC) asked the presenter if they have identified any weaknesses in the Financial Systems Assessment Program study conducted by the International Monetary Fund and the World Bank. He said that according to IOSCO, domestic regulators should explore possibilities of how to share information with their counterparts in other jurisdictions. He asked how the Bill addresses this.

Mr Barrow replied that there were a number of issues mentioned in the report. The majority of them are either addressed in the Bill or through the Financial Advisory and Intermediary Services (FAIS) Act.

On the issue of domestic regulators, he said that one of the OISCO requirements is that regulators should be able to share regulatory information. It has gone so far as establishing a process called the multilateral memorandum of understanding between members of IOSCO. It is a rigorous process which is subject to severe scrutiny to ensure there is no impediments to proper sharing of information. One obviously shares information with fellow regulators and the person requesting the information must prove that the information is required for a bona fide investigation. South Africa is one of the few emerging markets that have been admitted as a signatory of the memorandum. Only 26 countries have been admitted into this process. There is ongoing monitoring to ensure compliance with the requirements.

Mr Muller added that the FSB Act enables the sharing of information between regulators. The FSB has concluded 41 memoranda of understanding with foreign regulators. It has concluded such agreements with all members of the SADC except two countries. It is important to have such arrangements with as many foreign regulators as possible.

Ms J Fubbs noted that there had been differences of opinion between the FSB and the Department of Trade and Industry (DTI) in respect of companies and these have since been cleared up. She asked if the fact that the registrar may prohibit a person from carrying out a business of trading on listed securities and close down the business has been cleared with the DTI. Civil and criminal proceeding may be brought as a result of insider trading. She asked if it is correct that if there are civil or administrative proceedings, criminal proceeding could not be instituted. It appears that a number of provisions of the Bill also impact on a number of Departments. She asked if there had been engagement on some aspects of the Bill such as criminal sanctions with the Department of Justice.

Ms Anderson replied that there had been consultation with the DTI on the review of companies and auditing legislation. There is some overlap of the two Departments' responsibilities in terms of corporate governance. These issues were discussed and the Departments are in agreement.

With regard to civil and criminal sanctions, Mr Barrow replied that the old Insider Trading Act allowed both civil and criminal sanctions. The Bill introduces administrative sanctions. In so far as insider trading is concerned, one may not take both civil and administrative sanctions on the same set of facts. However, criminal sanctions may be added to civil or administrative sanctions. The Enforcement Committee does not replace criminal proceedings. However, if the Enforcement Committee deals with a person and criminal sanctions are later instituted, the judge would be required to take into account any administrative sanctions that might already have been imposed.

Dr Davies noted that requirements for listing are general and subject to regulations by institutions concerned. He asked if the presenters were satisfied with IOSCO regulations. Those regulations have been shown to be defective. He thought that there might be some virtue in being better than the Americans have been in some of these issues.

Mr Barrow replied that there are initiatives all over the world to tighten up corporate governance issues and standards of auditing. The King report said that corporate governance should be something that companies buy into. There should be no regulations for it. However the world has moved rapidly and this is "buying into" not good enough. There are amendments to the Companies Act that would address the issue of corporate governance. There is also some revisions being done on auditing legislation.

Mr M Stephens (UDM) said that the vision to become a financial centre for Africa is laudable. However, given the fact that the JSE conducts its business and clearing in South African Rand, any foreign company that raises money in South Africa would find itself with rands and therefore subject to exchange rates. He felt that the market would not fly as long as there are exchange controls. Markets get very jittery when money cannot move freely across borders.

Mr Barrow replied that markets would operate much better without such controls. A lot of the exchange control restrictions do inhibit the free development of the market.

Mr Dixon agreed that the JSE would conduct its trade in Rands. This was one problem that had to be solved when the idea of inward listing was mooted. It was agreed that if an African company wants to raise capital in South Africa, there would be no restrictions on that company converting the money into another currency. The South African investor would still be subject to exchange controls.

Mr T Vezi (IFP) asked if any homework had been done on unintended consequences of the Bill. South Africa had a dual economy. He was worried that the marginalized sectors of the community might be excluded from the whole process.

Mr Barrow replied South Africa was blessed with extremely well developed financial markets. They indirectly benefit the whole of South Africa. The ability to attract foreign investors certainly benefits the markets. There is little, if any, direct benefits to the man on the streets. The markets are there for the capitalists.

The meeting was adjourned.