Cover Story: Mitigating the risks for brokerages

This article first appeared in The Edge Malaysia Weekly, on August 24, 2020 - August 30, 2020.
-A +A

WITH retail investors scrambling to open share trading accounts and Bursa Malaysia registering record-breaking trading volumes, this could turn out to be a very lucrative year for brokerage firms.

However, this exuberant trading is mainly in stocks linked to the Covid-19 pandemic. What if it all comes to a sudden halt?

With the moratorium for loan repayments coming to an end in September, the ample liquidity that has been fuelling the market in the past four to five months could slow to a trickle. And if investors cannot make good on their payments, the threat of credit risk could quickly crystalise.

One brokerage is understood to have taken precautionary measures to mitigate such a risk by temporarily banning contra transactions and requiring upfront cash payments for the purchase of certain securities such as glove stocks, healthcare-related counters and structured warrants, whose prices have skyrocketed in a very short time, many beyond their fundamentals.

The Association of Stockbroking Companies Malaysia (ASCM) recently clarified that this is an independent initiative by an individual securities firm as part of its own risk management measures, and that it is not an industry-wide practice.

ASCM added that as an industry norm, contra transactions are still allowed and in effect, and that it is up to individual brokers to implement risk management measures that are best suited to the broker’s financial strength and risk appetite.

In an emailed response to The Edge, the Securities Commission Malaysia (SC) says the country’s stockbroking firms are on a strong financial footing, and able to withstand any abrupt pullback in the market.

“Based on our assessment, stockbrokers are well-capitalised, supported by sufficient liquidity buffers to withstand [any] sharp declines in the market. The SC has also, at all times, emphasised the importance of brokers having in place adequate risk management controls, taking prudent risk management measures and maintaining sufficient resources. They have adopted dynamic risk parameters to attune to the heightened trading volume and continue to remain cautious in managing risk exposures in periods of high volatility.

“In this regard, brokers have independently taken their own measures to manage potential risks, for example, imposing security requirement against credit risks. The current value of collateral as security against credit risks of the margin financing business is healthy at around 3.7 times the total margin loan outstanding,” the SC says.

The SC adds that the industry average capital adequacy ratio of investment banks is five times above the minimum risk-weighted capital ratio requirement while for non-investment banks, it is 17 times above the minimum requirement. “Over the years, the SC has strengthened its monitoring and surveillance of any emerging risk from heightened uncertainties due to domestic and external headwinds. We have been closely monitoring the recent record-breaking trading volumes on the local bourse to ensure that the market is operating in an orderly manner.”

Trading with caution

With the current buying frenzy driven by the demand for medical products to combat Covid-19, target prices from sell-side analysts for the glove sector have shot through the roof. Some may view this as contradictory to the limitations imposed by brokerages, such as the move in June to tighten share margin financing standards for glove stocks. However, analysts and fund managers do not view this as a disconnect between the two processes.

“As sell-side analysts, we generate our earnings forecasts and fair values for our stock coverage based on the sector and stock fundamentals at hand — this process is completely separate and unrelated to the risk management practices re share margin financing, which may take into account other, more trading-related factors such as liquidity and momentum, in deciding financing caps and share margin limits,” says Anand Pathmakanthan, head of regional equity research at Maybank Kim Eng.

UOB Asset Management (Malaysia) Bhd chief investment officer Francis Eng says one possible explanation for this is that brokers are mindful of the downside risks when providing share margin financing, while sell-side analysts look at both upside potential and downside risks.

“They would put target prices on various companies after doing their assessment on these companies. This may include raising target prices, especially if there is a new positive development,” says Eng.

TA Investment Management chief investment officer Choo Swee Kee concurs.

“Sell-side analysts normally base their recommendations on the company’s fundamentals while stockbrokers have to assess the exposure risk of the margin position to their capital adequacy ratio. Hence, if they have too much exposure to a single stock or a particular sector, they have to limit the exposure, even if it is a blue chip,” he says.



Save by subscribing to us for your print and/or digital copy.

P/S: The Edge is also available on Apple's AppStore and Androids' Google Play.