Portfolio Management Services of Listed Securities in Nepal
The global financial services
industry is developing so
fast that newer financial
products and services are being launched in the market everyday. The profiles of the investors are changing radically because their risk perception of investing in the stocks is changing as well. The public is showing an increasing interest in the capital market because investment in equities has proven to be the most effective way of maximizing returns over the years. This has directly contributed to the explosive expansion of the capital market worldwide, including in Nepal. Hence, there is a growing need to introduce fresh ideas and innovative products that can cater to the new range of investors.
Portfolio Management Service is one of the most successful and creative products available in the financial industry. It is now a large and important global industry in its own right, responsible for massive sums of investments globally. Many of the world’s largest companies are at least in part investment or portfolio managers that employ thousands of staffs and create billions in revenue. Portfolio Management is the professional management service of a collective holding of various securities to meet the specified investment goals of investors who may be public or private institutions or individuals.
To better understand Portfolio Management Services, it is essential to understand the concept of a portfolio. A portfolio is a collection of investment securities. As per Morgan Stanley, one of the top investment management companies in the world, you have a portfolio if you own more than one security. The portfolio can be further developed by buying additional securities and selling your holdings. By using the right investment tools and techniques, portfolio management can help you achieve attractive returns and to minimize your given risk. Managing a portfolio is a goal-driven process to increase the portfolio value by investing and divesting in securities in a timely manner. It yields optimal return by minimizing the risk level of the portfolio. Selection of securities is made by studying their historical trends and performance, while the risk level is mitigated by diversifying the portfolio holdings. Portfolio management requires continuous vigilance as high market risks exist which can be exacerbated by speculation, particularly in relation to the investments in the equity market.
Portfolio management entails certain scientific and mathematical steps and methods in order to create an optimal collection of stock holdings. To begin with, fundamental and technical analyses of stocks are conducted using sophisticated software. Stocks are then allocated to the portfolio holdings that would most likely match the returns expected by the investor and beat the market return. It is very essential to assess how the portfolio risk level compares with the market risk during the portfolio construction process. A sound portfolio normally bears lesser risk than the market. This is because of optimal allocation of stocks and diversification of the stocks (portfolio diversification). After a portfolio is constructed and the money is invested in it, it is monitored closely by expert portfolio managers using various scientific tools. According to the performance of the portfolio, portfolio managers will modify the portfolio periodically and make timely divestment decisions to ensure that their clients receive the expected returns. By seeking the service of portfolio managers, the following are the benefits that will be garnered by the investors:
4 Portfolio managers make all the investment decisions that are subject to professional rationality and scientific tools, on behalf of the client. Thus, every decision made will be to ensure the generation of adequate returns.
4 Since portfolio managers are transacting volumes for large number of clients, stock purchase and sale get preferential treatment from the brokers, thus receiving better prices through-out.
4 The investors or clients are free from the hassles of carrying out investment-related activities as portfolio managers will carry out all such activities on behalf of the clients.
4 Regular market updates, monthly reports and verbal inquiries are additional services that are generally offered under Portfolio Management Services. These additional services will create awareness/ knowledge among customers and keep them well informed about their investments and market scenario.
Simply put, Portfolio Management Services are sought by those investors who believe that making or selecting investments requires expert knowledge. Thus, you hand over your money to these experts to minimize your risks and generate returns for you minus all the hassles.
History
Investment management is the strategic management of investments in securities to meet the specified goals of an investor. It is an innovative technique which requires a high level of understanding of the prospective changes in the financial market. The success of investment management, its structure and process, depends on the quality of the fund manager. Thus, portfolio management and investment management service, to a large extent, do have a lot of similarities.
The origin of the modern close-ended fund portfolio management can be traced back to Foreign and Colonial Investment Trust (F&CIT) in London in 1868. Although investments in the capital market commenced then, portfolio management industry did not take off until the end of the 20 th century. Companies in the USA were the pace setters for the rapid development of the industry. In the 1970s, advocates from the financial structuralist school promoted the concept of institutionalizing savings and investment activities to further stimulate economic growth. Thereafter, investment in the capital market has experienced a rapid growth.
Of all the investing options, portfolio management of investment in securities has grown at the fastest rates because it provides a long term financial plan and greater returns to investors. It also ensures a higher level of liquidity as compared to investments in other asset classes. The history of portfolio management services synchronizes with the history of mutual funds, thus portfolio management is considered as the backbone of mutual funds. Mutual funds are investment vehicles that are made up of pools of funds collected from many investors for the purpose of investing in securities. Portfolio management provides the first step in the securities market to progress into the mutual fund industry which further mobilizes the money market and restructures the investment management sector. Hence, many countries with liberalized economy have shifted their financial system from the credit-based market to the capital-based market because investment in securities helps mobilize savings towards the capital market. It also provides support for economic stimulus instead of the funds remaining stagnant in a bank account.
Industry Outlook
n Volume growth with Central Depository System (CDS): NEPSE replaced the Open-Out-Cry-System with the Automated Computerized Trading System in 2007. With the introduction of CDS under a new regulation, NEPSE will turn into a fully automated system thus enabling volume transaction, introduction of new retail investors and efficient transactions into the capital market. Additional volume and market efficiency will increase portfolio managers’ role in the future. Introduction of CDS will also allow for intra-day trading, which will make technical analysis (that portfolio managers use a lot) imperative, along with having substantial implications on the market turnover and trading activity.
n Room for new products: There is a lot of room to expand and develop the Nepali capital market by introducing and opening up the derivative market – particularly futures and options. With the development of other securities like bonds, debentures, and derivatives, there would be a natural increase in the competition level in the capital market. Investors will seek the services of portfolio managers who will provide them with research-backed advice that will yield them returns that they expect.
n Wider geographical access: At present, the operation of the brokers is geographically limited by the WAN system. However, portfolio managers will not be restricted by geographical constraints. Thus, investors outside Kathmandu Valley will now have access to invest in NEPSE through the network of portfolio managers.
n Mutual Fund: The draft for the law relating to mutual funds has been forwarded to the legislative parliament for approval. Once it is enacted, the role of portfolio managers will be very significant as PMS is the backbone for the mutual fund industry.
n New Stock Exchanges: SEBON is checking the viability for introducing another stock exchange in Nepal, after it received three applications from the private sector. The introduction of new stock exchanges will enhance the role of the portfolio managers.
n Market Volatility: Since 2003, the market is moving on an upward trend backed by the hope among the investors to get rights and bonus shares from the banks and financial institutions. In late 2008, the market index corrected itself by more than 500 points and a lot of people realized the need for professional investment advisors. Consequently, cautious and advice seeking behavior has already developed among Nepali investors and the services of professional portfolio managers will be considered imperative.
Today, the investment/portfolio management industry has grown to a record high. Some of the largest portfolio management companies in the world are Fidelity Investments, The Vanguard Group, Blackrock, and UBS. There has been a formal recognition of academic degrees in the investment management sector and professional certifications such as Certified Financial Analyst (CFA) or Certified Financial Planner (CFP) to portfolio managers. They are responsible for the selection of investments in stocks, implementing investment strategy, and maintaining a continuous oversight of the contents within a portfolio. Jobs in the industry are in high demand as a successful portfolio manager is often sought by top companies. With the advancement in this sector, portfolio managers have created several modern portfolio theories and in-depth research materials through scientific and mathematical tools.
Global Practices
The largest investments globally are held by investors in the United States, followed by the United Kingdom and Japan. These countries boast of the most advanced capital markets, the wealthiest group of investors, sophisticated research tools and techniques and expert portfolio managers. Nevertheless, emerging markets across Asia, Latin America and the Middle East are following the suit and increasing their investment level as their economies are slowly shifting from industrial and agricultural-based to service-based. High net-worth investors who are the target clients of portfolio management services now have a wider base of financial instruments available even in the emerging and frontier economies as the efficiency of the capital markets across the globe has significantly advanced. A good example of an emerging market that has a systematically grown investment management industry is India. Currently, there are several international firms like Morgan Stanley and ING as well as local investment management c ompanies like Birla and Kotak Mahindra managing portfolios.
beed invest Products
n Growth Portfolio: This product is a portfolio of stocks of financially sound companies with growth potential and aims to deliver satisfactory returns over a period of short term/ mid term. Investors can expect a steady growth in this portfolio. Stocks of these companies have a premium valuation with a promise that they will justify the premium over a period of time given their excellent performance year after year and an above average growth rate relative to the market.
n Value Portfolio: Value Portfolio comprises of cheap stocks that are out-of-favor, such as cyclical stocks that are at the low end of their business cycle. The value portfolio will be primarily determined comparing the intrinsic value of stock calculated using DCF method with its prevailing market price. Value stocks tend to have higher intrinsic value than market price and also have lower price-to-earnings ratios and potentially higher dividend yields than the overall market. These potentially higher yields tend to cushion value stocks in down markets while certain cyclical stocks will lead the market following a recession.
n Guaranteed Portfolio: Guaranteed Portfolio will offer a minimum guaranteed return of 15% net per annum. If the portfolio fails to make an actual return of 15% net, beed Invest will bear the loss and provide the investors the assured 15% return.
n Customized Portfolio: Customized Portfolio construction entails taking into account the clients’ specific expected returns and risk taking ability, along with their investment amount and holding period. This type of portfolio will be available in a mix of investment profiles from conservative to most aggressive, with the investment timeframe depending on the type of the fund chosen. The portfolio manager will decide the diversification and sector allocation of the fund according to the fund’s investment objective and strategy and market conditions.
Present Nepal Market
In Nepal, the capital market is made up of the stock market and the bond market, and it comprises of two segments--the primary market and the secondary market. Both these segments complement and contend each other. The governing body of the capital market in Nepal is the Securities Board of Nepal (SEBON) which has so far granted permission to 159 companies (as on June 10, 2009) to issue shares to the general people. The secondary capital market of Nepal is the Nepal Stock Exchange (NEPSE) which is the trading platform for the listed companies’ securities.
The Nepal Stock Exchange was established in 1993. Since then, NEPSE has made significant advancements in all respects - the number of market participants, the trading volume, and the market capitalization. Currently, there are 23 stock brokerage firms and NEPSE has plans to increase this number to 50. NEPSE has recently announced its decision to transform itself into a profit making institution which would make the organization more competitive as three other stock exchanges promoted by private investors are in the pipeline.
A bullish market deludes people into believing that they are experts.
As reforms have been made in the financial industry and the capital market in Nepal has witnessed major growth, new products and services must be introduced to better manage and facilitate the flow of money in the capital market. The primary market has already received a high level of attention and many Nepali investors are already active in this segment (as the IPOs are generally oversubscribed by huge multiples). The secondary market, however, is still in an emerging stage and a lot is yet to be done here. Lately, SEBON has devised various regulations to strengthen and grow the secondary market, among which is the enactment of the Securities Act three years ago.
The term ‘portfolio management service’ legally came into effect after the introduction of Securities Businessperson (Merchant Banker) Regulation 2064. However, the portfolio management activities so far are being carried out mainly in an informal fashion by amateur portfolio managers who collect funds from their close friends or relatives. Though the informal players did make considerable returns for their clients, it does not sufficiently prove their expertise because the market was bullish anyway. The true test lies in whether the manager can beat the market returns and whether he can generate returns even when the market isn’t bullish. After the market index slipped from a record high of 1175 to about 600 in the last seven/eight months, many investors who had opted for these informal portfolio managers, have different opinions about them now.
Prior to the Securities Businessperson (Merchant Banker) Regulation, 2064, the merchant banking activities were limited to financial institutions. But such companies operated only as issue managers. Thus the other merchant banking activities were yet to be explored. Subsequent to the new regulation, the licensing authority shifted from Nepal Rastra Bank (NRB) to SEBON, and SEBON has issued merchant banking license (which allows also Portfolio Management Service) to a number of companies. However, only one, i.e. beed Invest has started the service of Portfolio Management.
Licensed Merchant Bankers
4 United Finance Ltd
4 Nepal Finance Ltd.
4 Nepal Share Markets and Finance Ltd.
4 NIDC Capital Markets Ltd.
4 National Finance Ltd.
4 Ace Development Bank Ltd.
4 NMB Bank Limited
4 Citizen Investment Trust
4 Elite Capital Ltd.
4 Nepal Housing and Merchant Finance Ltd.
4 Vibor Bikas Bank Ltd.
4 Development Credit Bank Ltd.
4 Nepal SriLanka Merchant Banking and Finance Ltd.
4 Tinau Bikas Bank Ltd.
4 Civil Capital Market Ltd.
4 Investment Management
4 Merchant Banker Ltd.
4 beed Invest Ltd.
Introduction of this service is considered a breakthrough that will eventually attract more players into this field so as to change the investment behavior of Nepali investors. For instance, the existing practice of investing on rumours, speculation and insider information will reduce and the investors will start investing on the basis of research.
Regulation in Nepal
The Securities Businessperson (Merchant Banker) Regulation 2064 issued under Securities Exchange Act 2063 is the regulation for merchant banking activities including the portfolio management services in Nepal. The following are the salient features of the current Nepali regulation for Portfolio Management Service:
i. Only a public limited company is allowed to carry out the activities of PMS.
ii. Minimum paid up capital required for such company is Rs. 10 million.
iii. Chairman, CEO and at least 2/3 rd members of the Board of Directors must have an educational background of economics or commerce or finance or accounting or management studies or commercial law and must hold a Graduate or Chartered Accountancy level degree, and have work experience of at least three years in the field of industry, commerce or securities market or industry pertaining to accounting, finance, commercial law or management.
iv. SEBON has to be informed of any agreements entered into by the company with other parties for portfolio management services and SEBON may prescribe how to execute the agreement.
v. Five percent of the revenue generated has to be paid to SEBON as service charge within a month of the end of the financial year.
vi. Financial statements have to be prepared as per the prevailing law and the audited financial statements along with an annual report have to be presented to SEBON within three months of the end of the financial year. A half-yearly report has to be presented within 60 days of end of the second quarter of each financial year.
Though the Securities Act 2063, Securities Regulation 2064 and Merchant Bankers Regulation 2064 have already been published, the detailed guidelines stipulating the agreement terms, fees and other operational directives for operation of portfolio management service are still being prepared.
The Nepali regulations have clubbed portfolio management and merchant banking together though the two activities have so many differences. In India, SEBI (Securities Exchange Board of India) has brought out two distinct regulations for these services, namely SEBI (Portfolio Managers) Regulations, 1993 and SEBI (Merchant Banker) Regulation 1992. SEBON too should consider preparing separate regulations.
Apart from the regulations and guidelines, a Code of Ethical Practices is also required along with a professional certification for portfolio managers. Also required are internet based trading system and the Central Depository System (CDS) to expand the customer base of the PM service providers and improve the transaction efficiency of the market. The regulation for the CDS system is expected to be introduced soon as the fourth draft of the regulation has been completed by the SEBON’s CDS Committee and is currently at the stage of legal review.
Future of PM Services
The growth in the secondary market was stagnant till the early 2000s, primarily due to the lack of the government’s commitment to develop the market and the lack of public knowledge about investing. However, over the past few years, the securities market has been gaining good momentum. In this background, the industry outlook for the PM Services is summarized here in the box.
BEED & PMS
Immediately after getting the license from the SEBON to function as Portfolio Management Service Provider, beed Invest announced the details of the services that it is going to offer. Accordingly, beed Invest offers an array of products that cater to varying investment needs to match specific risk profiles, says the company. “As Portfolio Managers, it focuses on professional administration of equity portfolios that are constructed with the help of an extensive research and exhaustive database. The investors whom it will serve include a diverse range from corporate institutions, non-profit organizations and government entities to individuals. We endeavor to achieve optimal and consistent returns for investors through extensive research, accessible resources and expertise with equities,” says the company.
According to the company, its products will be based on security valuation, fundamental analysis, asset allocation and portfolio optimization. All the portfolios constructed by beed Invest comprise only of “beed chips” - the securities of companies selected by beed for their
business quality, sustainable competitive advantages and consistent performance records, which fulfill certain well-defined criteria for safety, return, income and liquidity. beed chips are further categorized and allocated to the different portfolios offered on the basis of each portfolio’s specific risk/return objectives. It currently offers four products: Growth Portfolio, Value Portfolio, Guaranteed Portfolio, and Customized Portfolio as explained in the box.
