The following is an interview with Chairman of the Mongolian Association of Securities Dealers (MASD) J.Tsedenragchaa, highlighting important aspects of the Mongolian stock market.
Security trading at the Mongolian Stock Exchange (MSE) dropped drastically recently. How is this effecting brokers and dealers?
In the last two years, brokers received less work. There are several reasons for this. The work to improve the MSE’s technology began in 2011, when Mongolia established the Master Service Agreement with the London Stock Exchange. The technological upgrade wasn’t completed due to faults made during the establishment of the agreement. The legal environment must be able to accommodate technological innovations. Mongolia is now improving its legal environment. The renewed version of the Securities Market Law and Investment Fund Law was adopted. However, the technological and legal reforms are inconsistent.
The market shrank and opportunities for brokers to provide services decreased due to stock planning, incomplete technological bases, and inconsistent technological and legal reforms. Around 1,000 specialists were given the right to work at the MSE. They’re all very capable. However, some of them had to leave the stock exchange. All brokerage companies are working at a loss.
The Financial Regulatory Committee authorized licenses to operate as brokers for around 90 companies. How many employees of these companies are members of MASD?
There are 74 brokerage companies at the MSE and 48 of them are members of MASD. Our members are doing strenuous work. Our association is a member of the Asia Securities Forum.
What was insufficient in the MSE’s reform that led to the decrease in opportunities for companies?
The Mongolian National ECM LLC developed the previous MSE program, the e-Clearing Program used by the Mongolian Securities Clearing House and Central Depository (MSCHCD), and the internal registry program of brokerage companies. These programs operated consistently with one another. After technologies were reformed, brokerage companies couldn’t open accounts. The T+0 billing system was changed to T+3 and stopped functioning with its basic principles. Basically, the technological innovation wasn’t completed.
Exchange technology consists of three systems: trade, brokerage, and settlement systems after trade. The settlement system after trade has four functions, namely saving, clearing, billing and risk management. When MSE technology was renovated, only the savings system from the four functions were introduced. Now, the MSCHCD uses the Millennium Depository System for savings. The e-Clearing System is used for clearing and billing. Some operations have to be done manually since the automatic connection of the two systems wasn’t made. Nineteen percent of the work for settlement after trade is executed with the Millennium Depository and 81 percent with the e-Clearing System. Also, brokerage systems have a special function for securities trading. Securities’ trading starts and ends with the brokerage system. The front office system of the brokerage system registers securities trading orders and does the transaction. Then, the transaction is completed with the back office system, the system for registering and billing. The brokerage system wasn’t actually changed. Now, the association is working with ECM LLC.
How much of the premium do brokers receive?
On average, around two percent. Percentages of the MSE, MSCHCD and Financial Regulatory Committee are included in this, meaning that brokers are eligible to get a small portion. The commission for brokers is dropping each year. The MSE had trades worth 93 billion MNT in 2013. Brokerage companies got approximately two to four million MNT in trade commissions. Trade commissions are the principle income of brokerage companies.
Even with this small income, how do brokers continue operating without going bankrupt?
Broker-dealer companies with licenses and management are restricted from having other income besides their principle work. Most brokerage companies profit from developing projects and giving advice.
Aren’t there too many brokerage companies in Mongolia’s small financial market?
The Master Service Agreement with the London Stock Exchange gave the impression that Mongolia can operate in both domestic and foreign stock markets. Furthermore, distributing the stocks of Erdenes Tavan Tolgoi to the people and the decision to release an IPO contributed to increasing the number of brokerage companies considerably. Before establishing the Master Service Agreement and announcing that Erdenes Tavan Tolgoi shares would be traded in domestic and foreign stock exchanges, there were around 40 brokerage companies operating in Mongolia. After the announcement, this number increased to 100. Lately, many companies are proposing to terminate their licenses.
The legal reform for stock market is still progressing. After the reforms, what’ll change in the market?
The legal reform is a main factor for developing the stock market. It needs to be done correctly and create a legal environment which supports the market’s development and opens new opportunities. There are around 20 laws that affect the stock market directly and indirectly. Their inconsistency with each other is rather obvious. For instance, the Securities Market Law and Civil Law have different contents about properties. The Securities Law allows the double listing of securities in foreign and domestic stock exchanges. However, there are many doubts about the Law of Mongolia on State Registration of Legal Entities. It’s impossible to work efficiently in a legal environment limited to only Mongolia. The Mongolian law and legislations related to the stock market should become consistent with international legal standards. If this doesn’t happen, Mongolia will not be able to enter integrated marketing communications. Excessive governmental regulations should also be reduced. The government should regulate only necessary aspects and leave out things that the market can regulate by itself. It shouldn’t be too bent to one side.
Why isn’t the stock market in Mongolia developing?
It’s connected to weak policies. You can say that there’s absolutely no policy. In international markets, stock exchanges are becoming an entertainment organization. We need to compete in marketing products and bring in the best products to stores. Stock exchanges are uniting in order to decrease the cost of services and improve competitiveness. It’s evident that the MSE will eventually be dragged into this competition. Mongolia will lose its market and products if marketing, management, human resources, and basic infrastructure are poor. While the world is making these changes, the Mongolian stock market hasn’t had a policy for 20 years. Long-term strategies need to be defined and documents with development approaches and policies should be developed and approved at the parliamentary level. After routes are defined, organizations participating in the market should cooperate in developing and implementing plans and programs to develop the market.
Mongolia doesn’t have all the infrastructures for the stock market. What sort of work is being done to further this development?
The stock market infrastructures consist of exchange, security payment, billing, saving, and broker and dealer companies. Currently, Mongolia doesn’t have an independent clearing organization. Therefore, bonds, derivative financial instruments, and exchange markets aren’t developing. Clearing decreases the risks related to trade and payment. In the new Securities Market Law, clearing is defined as, “Center for trading and settling securities.” MASD sees that this infrastructure should be made based on the Central Bank. Also, there aren’t any custodian banks in the Mongolian stock market. A custodian bank is an organization that keeps securities and funds of investors. It’s the fundamental part of investment funds that gives information related to investors’ shares and tax calculations. Mongolia started implementing the Investment Fund Law. Yet, there’s no news of investment funds being established or coming into Mongolia.
This may be to prevent fund investments in Mongolia’s economic conditions. In the law, the MSCHCD and trade banks can get a custodian license. Due to economic situations, commercial bank ratings have dropped and it became difficult to acquire a license. Domestic banks must meet the requirements of global custody. Our organization initiated a project to establish a custodian bank based on the MSCHCD as it is approved by the law. Since the MSCHCD is a governmental organization, investors will trust it. The MSCHCD is a member of the Central Bank which is in the RTGS system.
Mongolia didn’t use tax stock dividends and exchange rate difference profits. Mongolia started to tax after the law expired. The Hong Kong Stock Exchange completely exempts taxes of this kind. In Japan, if a citizen makes a large investment for a certain period of time in the securities market, they are exempted from tax. Large stock exchanges give tax rebates to attract investors. Investors will not be attracted to Mongolia because it taxes them. In order to attract them, Parliament should approve a law that exempts tax from securities and stock dividends and exchange rate difference profits.
What should Mongolia do to develop the stock market?
The stock market is a bridge to economic development so it should be fine to compare it to a bridge. The Mongolian stock market is similar to an old wooden bridge that was handmade. It’s essential to build a sturdy metal and concrete bridge made after a considerable amount of research and engineering solutions. At the moment, only pedestrians are able to cross the current wooden bridge. In other words, “retail” investors. We need to build a bridge for heavy vehicles and create the conditions where investment funds and banks can enter the Mongolian stock market.