Brokers seek till 2030 to meet provisioning against negative equity, unrealised losses

Infographic: TBS

Stock brokers — one of the major intermediaries in the country's capital market — have proposed another six-year relaxation, up to 2030, to gradually maintain provisions against negative equity and unrealised losses to resolve these long-standing issues.

Currently, brokers and merchant banks are enjoying optional facilities to maintain provisions against negative equity in clients' margin accounts and unrealised losses in brokers' dealer accounts under extensions granted since 2016.

The fifth extension, allowed by the Bangladesh Securities and Exchange Commission, is set to expire on 31 January 2025.

The DSE Brokers Association, an association of DSE brokers, in a letter to the commission at the beginning of December stated, "To ensure the sustainability of the capital market, there should be no extensions beyond 31 December 2030."

The brokers fear that if the relaxation is lifted immediately, brokerage firms' growth will stagnate, and the market will enter into a prolonged hibernation, the letter added.

Tk9,700cr negative equity

Stock market faces Tk9,700 crore negative equity burden. Up to 150% margin loan against equity allowed in 2010 regulations was practically surging to 200%-400% amid a slack in regulatory oversight for compliances.

With the market crash later that year, negative equity ballooned to over Tk25,000 crore in three to four years as sympathy to protesting investors forced the regulator to ask brokers and merchant bankers for no forced selling.

Brokers and merchant banks provide loans to their interested clients for buying additional stocks and in the declining market it reduces their equity due to unrealised losses. 

As lenders, brokers and merchant banks need to set aside the provision from their income against the unrealised losses.

An investment portfolio loss remains unrealised until the investor sells the securities off at a price lower than the cost price and the international accounting standard asks for 100% provision against such losses at the same accounting period.

Saiful Islam, president of the DSE Brokers Association, told TBS, "We have urged for time extension and to complete full provisioning gradually by 2030 because of ongoing volatile capital market."

He added, "The floor price has caused the greatest damage to the capital market, and brokerage houses are the worst sufferers. Because of the floor price, shares could not be sold even after falling under margin calls."

He said negative equity has been putting significant pressure on the brokerage industry due to downward situation of the capital market. "If provisioning is done immediately, most brokerage houses will face a major crisis."

In March this year, in response to the ongoing downturn in the stock market, the securities regulator had extended the timeframe for the fifth times to the stockbrokers and merchant banks.

What impact feared, if relaxation lifted?

In the letter, the association stated that negative equity incurred in margin accounts in the capital market is currently one of the critical issues impacting the financial health of market intermediaries, including stock brokers.

"If the relaxation of provisioning is lifted immediately and brokers are required to report the full provision within one year, most stock brokers will have to incur huge losses.

"This will have a deteriorating impact on the financial health of the stock brokers and the overall brokerage industry," the letter added.

The proposal outlines a step-by-step provisioning plan as follows: 5% provision for 2025, 10% for 2026, 15% for 2027, 20% for 2028, 25% for 2029, and the remaining 25% for 2030.

Citing the commission's recent initiatives to reform the capital market, the association stated, "We expect the market to stabilise gradually and achieve sustainability, which will eventually lower the total provisioning requirement caused by negative equity in margin accounts.

"Moreover, if we take the hit immediately, most financial institutions and brokers will become insolvent, and the earnings of listed parent companies will be significantly affected."

No margin loans with negative equity accounts

The association also proposed that no additional margin loans should be provided to accounts with negative equity to prevent market intermediaries from taking unfair advantage of the provision relaxation.

Additionally, any interest accrued from negative equity accounts should not be recorded as part of the company's income.

Separate rules on margin loans for directors' shares

The association recommended formulating a separate rule for shares bought by directors using margin loans, similar to practices in the USA. 

This would allow brokers and merchant banks to liquidate the margin loan without requiring approval when a margin call is triggered.

The association stated that when an investor sits on the board of directors, the shares owned by the director remain locked and require stock exchange approval for liquidation. The same rule applies when directors buy shares using margin loans.

It said, "This restriction has resulted in negative equity from margin loans, as only the directors can obtain approval from the stock exchange to sell off the shares, even when a margin call is triggered.

"If a separate rule for the directors formulated which is the same as in USA, where there is no such provision of lock-in. this will prevent further creation of negative equity from margin loan taken against the lock shares."