2008 was a year without parallel in modern economic history. It was the year in which the markets punished the high leverage, risk taking and greed of the financial services sector resulting in a full blown crisis of confidence leading to the debt markets becoming non operational. Global equity markets were not spared the trauma either.

The notion that developing countries in Asia were somehow "disconnected" from what was seen as a crisis engulfing the USA and Europe was quickly proved wrong and Asian markets, including Sri Lanka suffered.

Unfortunately Sri Lanka had to respond to the crisis somewhat slowly and less aggressively compared with some of the other affected Asian countries due to the tightness in fiscal and monetary space.

All of these circumstances meant that the equity market did not respond as strongly as it might otherwise have, to the significant progress made towards capturing territory held by terrorists and to the positive impact on the balance of trade from sharply lower oil prices.

Towards the end of 2008, Sri Lanka also had to contend with the failure of companies that had been engaged in raising deposits without supervision or regulation. Fortunately, the Central Bank moved commendably quickly and firmly to arrest the contagion effect on the regulated financial sector.

Nevertheless more will need to be done before confidence can be fully restored. 2008 also saw a sell off of short term national debt by foreign holders although this trend was less pronounced in the case of equity investors. The resultant outflow of foreign exchange had an adverse impact on the foreign reserves of the country and has prompted the government to seek, earlier this year, a line of credit of USD 1,900 m from the IMF, which is under negotiation, to support the balance of payments and rebuild reserves. The performance of the equity market in Sri Lanka and the CSE in 2008 has to be evaluated in this background.

The Chief Executive’s report sets out the salient aspects of the performance of the CSE. While statistics show that the CSE in some ways performed better than some of the other markets, the fact remains that the CSE continues to be dogged by structural and macro issues that inhibit its development. Chief among them are the high level of broker risk, the lack of traded products, high transaction cost and poor liquidity. With regard to eliminating broker risk, a decision has been made to introduce a central counter party for settlements and the CSE is working on this. CSE is undoubtedly one of, if not the most, expensive exchange in the world to trade on. A proposal to reduce the threshold for negotiated brokerage from the current high level of Rs 100 m per transaction did not find favour with the member brokers.

In fact there is a move to reintroduce a minimum brokerage for even high value transactions which is a retrograde step. The CSE also attempted to improve liquidity for the benefit of investors by improving the market microstructure and proposed (a) reducing the tick size to 0.10 cents from the current 0.25 cents, (b) reducing the lot size to 1 share from the current 100 and doing away with odd lots, and, (c) increasing the threshold for crossings from the current Rs 10 m to a minimum of Rs 25 m. None of these proposals could be implemented as they did not receive the approval of our broker members.

In fairness to our members, it must be said that they did offer counter arguments against the proposals and also made the point that these proposals may not improve liquidity but on the other hand increase their processing costs. Although nothing was indeed certain but since none of these measures were irreversible, the reluctance to try some new initiatives that would also force them to improve their own productivity was somewhat disappointing.

I believe that these constraints will continue until such time as the ownership of the exchange is divorced from those who use its platform for trading. This has been done successfully in many other countries through demutualization.

There have been positive discussions in this regard with our members as well as the Securities and Exchange Commission and it is hoped that it could be progressed expeditiously. It is also to the credit of our broker members that there have been no settlement failures but the current infrastructure for risk management is woefully inadequate to move to a higher level of activity.

The next group of stakeholders that the CSE addressed in 2008 was the listed companies. The listing rules were revamped taking into account the new Companies Act, the costs relating to continuous listing, flexibility to raise new equity and better investor protection. With regard to investor protection, the CSE also commissioned a new automated surveillance system aimed at identifying irregular transactions.

The draft rules were published for public comment and some changes were introduced taking into account the responses. As usually happens in Sri Lanka those who remained silent during the consultative phase have taken exception to some of the provisions relating to changes to disclosure requirements; specifically the removal of the requirement to send quarterly accounts to every shareholder or publish these in the newspaper and the ability, if they so wish, for companies to send their annual reports on magnetic medium instead of in a printed form with an option available for shareholders to obtain a full annual report upon request.

Along with these changes the CSE also reduced the time granted for quarterly and annual disclosure of financial performance by 2 and 4 weeks respectively. The CSE believes given that no investor can trade on the exchange except through a broker, the investors are well within their right to require their brokers to provide value added information relating to their investments by disseminating financial information related to listed entities. The significant cost saving to companies brought about by these changes will eventually accrue to the benefit of shareholders.

The timing of the recovery of the global economy is still uncertain. However, we should not let this unduly cloud the investment decisions in Sri Lanka. While there are some negative factors still to be dealt with in the short term, the opening up of the East and the North and resumption of economic activity connected with reconstruction and resettlement and the international support that these activities are likely to attract should help Sri Lanka to recover ahead of the curve.

The sharp decline in policy interest rates will no doubt feed into the banking system in the months to come and all of these factors should help to improve corporate profitability and investor sentiment. The CSE for its part will strive to equitably deal with the interests of all its stakeholders while stridently moving towards and making the necessary investments to achieve its vision to contribute to the wealth of the nation by creating value through securities.