Sharebroking and investments: Independence goes not with a bang but a whimper

Friday 22nd March 2002

The Stock Exchange has been the first victim of greater state control over capital markets, argues SIMON McARLEY

The New Zealand Stock Exchange Restructuring Act, to be closely followed by the Securities Market and Institutions Bill, will introduce sweeping changes to the independence and control of the Stock Exchange and its market. If enacted in its current form the Securities Bill will:

require ministerial approval of the exchange's listing rules, and internal conduct rules;

confer ministerial veto on any amendments to those rules;

allow ministerial control of ownership of the exchange;

give the Securities Commission the role of monitoring the exchange's activities and the power to direct the exchange in exercise of its powers. This will include the power to direct suspension of listing. This effectively usurps the powers of the exchange's market surveillance panel; and

allow overseas exchanges to be approved for operation in New Zealand, without constraints to which the NZSE may be subject.

This represents a fundamental change in independence of the exchange and the independence of New Zealand's capital markets. All without as much as a whimper.

Over the period of its evolution since 1915 the New Zealand Stock Exchange has jealously retained its independent status and more importantly the operation and control by its member firms.

While the 1981 legislation introduced registration, it left untouched the ability of the exchange to manage its operations, particularly the rules under which it admitted companies to listing. This independence was vigorously protected and upheld in 1984 in litigation between the exchange and the Listed Companies Association.

The pride of the exchange's independence was its market surveillance panel, which provided independent and market based review, enforcement and waiver of the independently formulated listing rules. The surveillance panel comprised market and legal specialists, and developed a reputation for adopting practical and flexible solutions.

It also reflected the exchange's free-market stance and often appeared to be at odds with the more interventionist approach taken by the Securities Commission and the incoming Labour government. Unfortunately, the panel attracted some criticism for appearing not to support the interests of minority shareholders over those of larger institutional investors and listed company management.

But in February 2001 the exchange appears to have made a fatal error. It was negotiating a lucrative merger with the Australia Stock Exchange and was looking toward a healthy pay out for its members.

It hurriedly sought to demutualise its structure to aid its cause. The exchange's management seem to have under-estimated the zeal with which the then new government would seek to reform New Zealand's capital markets.

At that time Commerce Minister Paul Swain had expressed a clear desire to tidy up the market he equated with the Wild West. He was already well advanced with the implementation of the Takeovers Code, which the exchange had resisted.

The presentation of the exchange's private bill to facilitate its demutualisation delivered to the minister the ideal vehicle for introducing the measures he would use to reign in the exchange.

Now, 12 months later, we have comprehensive legislation before the select committee that will effectively end 85 years of exchange independence.

Whether or not you support wider control of the exchange, the resounding question is: how did this happen with so little public debate or comment?

And the exchange's plight is not unique. In the last two years we have seen a silent and often un-debated move away from the 1980s free market and lighthanded regulatory approach.

Other measures include proposals for licensing and regulation of investment advisors, the introduction of the Securities Commission as "prosecutor" of insider trading remedies, proposals for interventionist consumer credit legislation and the introduction of the Takeovers Code.

Further amendments are proposed to introduce more direct ministerial control of the process for determination and application of that code.

While each of these measures may have its own substantial merits, it is disappointing this trend has attracted none of the debate that accompanied the deregulation of the markets in the 1980s.

The efficiency and effectiveness of the capital markets is fundamental to any capitalist economy and it is astounding such far-reaching changes to our capital market were under way without substantial debate.

And where does the blame for the exchange's plight lie?

In a large part it seems to lie with the exchange's management and stems from an apparent failure to read the political signs.

In the background lies the debate about to the responsibility for the overall poor performance of the economy. While you can argue about the relative performance of New Zealand and overseas equity markets, there seems no argument that progress in growing the overall size of the market has been poor.

Compared with other international exchanges of equivalent size, such as the Irish Stock Exchange, the New Zealand experience is appalling.

While the exchange has made good progress in providing advanced trading and settlement systems to its members, it has allowed a view to persist that it has done little to benefit the economy. While the exchange may lay the blame for stagnation of our market on poor performance in the wider economy and government policy, this itself should be a clear warning that a collision with government is ahead.

The exchange's response to the flagging market, the New Capital Market, has been a limited success. It has been overshadowed by the more successful and flexible "grey" market operated by exchange members and has faced criticism that its rigid structure is designed to ensure the exchange's membership has a monopoly on its utilisation, and that it is not designed to benefit the economy.

There is no argument that the exchange's role is to provide benefits to its members but its concentration on this in the face of an interventionist government looking for someone to blame for market sickness may have been an error.

The exchange's future looks fairly bleak. Although it has the ability to provide state-of-the-art trading and settlement facilities to its members, its market position continues to be under threat.

It faces greater government intervention and political control which may see it, much like TVNZ, seeking to serve a wider social purpose above delivering benefits to its members.

It is under threat from its former transtasman suitor with changes to Australian listing rules that appear to be designed to steal the remaining crown jewels.

Its ability to manage its own market is now subject to bureaucratic control and the Securities Commission's powers of direction have effectively relegated its market surveillance panel to the status of an inferior court. Members of that panel cannot be relishing the prospect of being second-guessed by the commission.

There is also potential for approval of an overseas exchange to enter the market and compete with it, free of the constraints of government policy objectives and controls. The Australian and London exchanges are already eyeing this hungrily.

Simon McArley is a partner in the financial services group of KPMG Legal and convener of the Law Society's commercial and business law committee. The views expressed are however personal and do not reflect the views of KPMG Legal or the Law Society.

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