The role of merchant banks in share market

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Offline Rozina Akter

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The role of merchant banks in share market
« on: September 14, 2015, 02:57:06 PM »
Merchant bank is one of the most important player of the capital market. Other players of the market are more or less engaged in a single job while the merchant bank has multiple functions to perform.  It acts as a manager to issue and either directly performs or helps perform other functions  connected with the initial public offering of a public limited company. It not  only functions as a manager to issue, but also induces the prospective  public limited companies to go public. In this connection, it may be mentioned that the stock exchange people and other gurus of the capital market have been raising brouhaha for slashing the corporate tax of the listed companies along with widening the gap of the tax between the listed and unlisted companies. The government complied with the proposal and radios the corporate tax from time to time. But the difference between the listed and unlisted companies has always been 5.0 per cent. In current year's budget the figure   has been raised. Now the rate of corporate tax of the listed and non-listed  companies is between 25 and 35 per cent respectively. The difference is quite significant. The merchant bank may now use this as an important  publicity stunt to convince and  induct  the prospective companies to go public.

The business community as a whole was particularly vocal in demanding the reduction of the corporate tax for listed companies. Now let us wait for the response.

Merchant banking has been a very old financial institution. The origin of merchant banking is to be traced to Italy during late medieval periods and France during the seventeenth and eighteenth centuries. The Italian  merchant bankers introduced in England not only the bill of exchange but also the institutions and techniques connected with an organized money market. In seventeenth and eighteenth century France, a merchant banker  (La merchand banquer) was not merely a trader but an entrepreneur par excellence. He invested his accumulated profits in all kinds of promising activities, heeded banking  business to his merchant  activities  and became a merchant banker.

In the United Kingdom, merchant banks entered the scene in the late eighteenth century. Industrial revolution made England a powerful trading nation. The term merchant bank is used in the United Kingdom to denote banks that were not merchants and sometimes business houses that are neither merchants nor banks. There have been tremendous evolution of activities of merchant banking during the decades. Merchant banks in the United Kingdom finance a trade bill, issue capital, manage individual  capital, undertake foreign security business. They also used to finance sovereign governments through grant of long term loans. They financed the British Government to purchase shares of the Suez Canal, helped America purchase the state of Louisiana from Napoleon raising loans from money market in London. Lazard Brothers granted loan to government of India for Durgapur steel plant. Gradually the commercial banks started to engage themselves in activities of the merchant banks. In the U.S.A, merchant banks are known as investment banks. Functions being the same, investment banking in the U.S.A suffered a set back after the great crash of 1929 and depression. The U.S congress in 1933 passed the Glass Steagall Banking Act which separated investment banking from commercial banks and prohibited depositors from underwriting. This acts also prohibited the commercial banks from owning a firm dealing in securities. The act was challenged by banks offering money market mutual funds and other investment services and has been expected to be the subject of reform. The U.S Federal Reserve decided in January 1997 to issue a sweeping proposal that would loosen restriction on banks' activities in the securities business. However, again after mega corporate  scam in the U.S.A in 2001 the U.S congress passed Sarbanes-Oxley Act 2002, which brought the entry of capital market under strict surveillance. Naturally the merchant banks are also to comply with certain do's and dont's. In this way the merchant banks have been playing cat and rat game for performing their functions. But the long and short of the story is that the merchant bank has a great role to play in the overall development of the capital market. It will not be an exaggeration to state that sky is the limit  and the merchant bank has the wide scope for becoming innovative. However the most important activity of a merchant bank is to provide margin loan for the intending investors. By doing so it creates and nourishes the investors and thus broadens the base of the share market. In providing margin loan, the  bank is to  strictly maintain a rational ratio between the margin loan of the bank and amount to be paid by the clients. This is to be constantly supervised and adjusted no matter whatever the situation may be.  Unfortunately, this did not happen in case of merchant banks in Bangladesh. They enjoyed free ride in granting margin loan. Almost within a decade Bangladesh became victims of two mega share scams and caused colossal damage to the capital market as a whole. The Economist on both the occasions reported that the innocent investors were slaughtered. Merchant bank was also a villain. Recently it has been published in the media that huge amount of money has been stuck in the banks belonging to both the banks and their clients. During both the scams merchant banks orchestrated with the insane market movement and did not try to be rational and realistic. From the same report it appears that  the members of the Chittagong Stock Exchange and affiliated merchant banks  proportionately offered higher margin money. But the traded amount of Chittagong Stock Exchange is almost one-tenth of the Dhaka Stock Exchange.

As mentioned in the same report some merchant bankers stated that they did approach the then mandarins of the securities and exchange commission  (SEC) seeking their advice. Some of them asked to wait expressing the hope   that the market would rebound. It was a naive view because share market usually crashes after meteoric rise of the share prices. No possibility was there to come back to the normal position in near future. So this kind of advice, if any, by the SEC people, was very unfortunate.

A rescue plan has been devised by the government for both the merchant bank and the investors. Of course, this does not come within the purview  of the government's activities. Because the government does not invite people to come and invest in the market; the investors are supposed to invest applying their own intelligence of course.  The merchant bank is also there to help the investors with proper selection of the securities. The government  agencies are to ensure  that  the rules of  games are followed. But lack of knowledge of the government about the role and functions of the stock exchange dragged it into the quagmire of the share scam.

Share trading does not directly add any value to GDP. So the government  does not require to overplay its part. By this time the government has realised and gained enough experience. To put the share market in the right track the government has taken certain steps that may be termed as landmarks, such as, demutualisation of the stock exchange, trial of the  shenanigans of the share scam and enactment of  Financial Reporting Act.

Any way, the role of the merchant bank in the development of the capital  market can hardly be over-emphasised. It should function properly and the rules of margin loan should be sine qua non of the merchant banks as done elsewhere in the world.
Rozina Akter
Assistant Professor
Department Of Business Administration

Offline munna99185

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Re: The role of merchant banks in share market
« Reply #1 on: October 10, 2015, 04:20:55 PM »
Informative post.


Sayed Farrukh Ahmed
Assistant Professor
Faculty of Business & Economics
Daffodil International University


Offline shahanasumi35

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Re: The role of merchant banks in share market
« Reply #2 on: November 04, 2015, 04:39:05 PM »
Good post.