Oran Hall | Built on trust
The financial system is built on trust. It works when we can bank on the reliability and integrity of all participants and on the systems put in place to deliver what it promises. Sadly, a breach in one part of the system has the potential to shake...
The financial system is built on trust. It works when we can bank on the reliability and integrity of all participants and on the systems put in place to deliver what it promises.
Sadly, a breach in one part of the system has the potential to shake confidence in the entire system.
The securities industry has grown well over the years partly because of the commitment of players to decency and fairness. Market participants have increased significantly. So have the investment houses, the products, and the professionals entrusted with the responsibility to serve investors.
Significantly, the debacle of the 1990s made serious regulation absolutely necessary, and it has worked reasonably well. But a recent breach has made it necessary to set out a new path to tighten regulation in respect of securities, but also pensions and insurance.
Stockbrokers – the companies and the individuals – play a central role in advising the public, executing their orders, ensuring the safe transfer of the ownership of securities and protecting the money entrusted to them by their clients, whose interests are paramount.
Electronic systems have served to speed up the time it takes to transact business and have led to higher trading volumes and greater levels of efficiency but have not eliminated the potential for misconduct in the market.
Thus, investors must be more careful and alert in regards to how they manage their business and the relationship they have with those they trust to deal with their money, regulatory systems notwithstanding.
Certain minimum standards and practices are expected of investment houses and the people they employ. Some clearly have met and continue to maintain them. Some have exceeded them and at least one, from the most recent experience, has fallen short.
This is how one brokerage handles the orders of its clients. Each time a client places an order, a member of the team gives the client a call-back to confirm the order. Upon the execution of the order, a contract note stating the type of transaction, the security, price, charges, settlement date and total value of the transaction is sent electronically to the client. These contract notes should be perused very carefully to ensure that they represent a true reflection of the client’s instructions.
Thereafter, settlement takes place, the Jamaica Central Securities Depository, JCSD, being central to this part of the process. The broker sends a monthly statement to the client, who should peruse it very carefully and compare it with the contract notes. Additionally, the investor may request a statement from the JCSD in respect of listed equities, preference shares, and bonds, as well as repurchase agreements or repos.
This stockbroker also requires its clients to say in writing who has authority to give instructions on the account.
Some brokers enter into discretionary arrangements with their clients, whereby they execute buy-an- sell orders for them without the need to refer to them before executing the orders. One broker I spoke to acknowledged consulting with such clients in some cases although not being required to do so.
The brokerage firm requires clients entering into such an arrangement with it to sign a contract giving it discretionary authority to make buy and sell securities for the account. It includes an investment policy statement with information derived from the client. This very useful document provides information relating to the risk tolerance of the client, the client’s objectives, financial profile, any restrictions the client wishes to place on trading on the account, when the portfolio is to be reviewed, and the expected rate of return, for example.
For purposes of internal control, no individual has sole authority for the execution of any order for the client. The originator of the order is not allowed to approve the execution of the order, and because the brokerage is part of a group, the group’s internal audit department provides some oversight in addition to that given by the risk and compliance unit of the company. Here is a company that recognises the value of proper controls and procedures.
The Debt Management Unit of the Ministry of Finance and the Public Service plays an important role in the primary issue of Government of Jamaica debt securities in collaboration with the stockbrokers. Ownership of the securities is held electronically in the JamClear Central Securities Depository, which is administered by the Bank of Jamaica.
The debt securities that are already owned by investors trade in the secondary market through the stockbrokers, who issue contract notes for each transaction. When the securities mature or are sold, the proceeds are paid to the investor in line with the instructions they give to the stockbroker, by electronic transfers to their bank account, for example, but during the time investors own such instruments, they may receive statements from the administrator.
It is important to recognise that when investors buy securities, they are not investing in a brokerage company but are just using it as an agent to buy and sell securities for them. The securities are registered in their account, and their funds are not commingled with the funds of the company.
Consequently, investors should not lose their money even if the brokerage house fails. Only in cases in which a brokerage house is so poorly run that renegade employees can misappropriate clients’ funds is this likely to happen. Nevertheless, investors may lose some of their invested funds in the normal course of investing if the securities they buy do not do well.
To reduce the risk of doing business in the securities industry, investors may consider talking to people they know about their experience with particular brokers and should hear from stockbrokers what systems are in place to deal with the business of their clients before making a decision.
Oran A. Hall, author of Understanding Investments and principal author of The Handbook of Personal Financial Planning, offers personal financial planning advice and firstname.lastname@example.org