Over the last few years there’s been a boom in over-the-counter (OTC) trading in South Africa thanks to the advent of broad-based black economic empowerment deals. Under the terms of many of these BBBEE deals, black individuals who purchased the shares are eligible to trade them with other black individuals, but, because the trade must be with black individuals, the JSE is not a suitable venue for the trade. To fill this gap, a number of OTC markets have sprung up.
Now, it turns out, the Financial Services Board is preparing to clamp down on these exchanges because, in terms of the law, they are operating illegally. All exchanges in South Africa which constitute, maintain, and provide an infrastructure for bringing together buyers and sellers of securities, whereby a maxed bid constitutes a transaction, must be licensed by the FSB. Unfortunately, the only licensed exchange in the country right now is the JSE, making all the OTC markets essentially illegal. This is a bit of a mare’s nest, and definitely something to watch. – FD
ALEC HOGG: Here’s a story that hundreds of thousands of shareholders in BEE stocks will be very interested to hear about. The Financial Services Board of South Africa has suggested that companies operating over-the-counter platforms need to let it know by the end of July whether or not they’re going to apply for a stock exchange license. If they don’t apply for that license by January next year, they have to cease trading. Joining us for more is Erris van Kerken, who is a Senior Forensic Investigator for the Directorate of Market Abuse at the Financial Services Board. Erris, it’s an interesting conundrum that one is faced with here. You have hundreds of thousands of shareholders – primarily black shareholders – and some of those participating in these schemes are not always the most sophisticated, who now have an opportunity to trade through over-the-counter Equity Express and the MTN Zakhele scheme. What are you hoping to achieve with the direction you’re going towards in asking these OTC operators to give intention that they’re want a license?
ERRIS VAN KERKEN: Good afternoon, Alec. Firstly, I think we need to start with the legislation. The applicable legislation here is the Financial Markets Act. This Act has specific requirements and a definition as to what constitutes an exchange. An important point to make here is that not all OTC trading would necessarily fall under this definition, and it’s only a person who constitutes, maintains, and provides an infrastructure for bringing together buyers and sellers of securities, whereby a maxed bid constitutes a transaction. If you meet these requirements, you are in terms of the law, an exchange. What the Registrar has done is published the directive to say ‘this is the law’ and that as the Registrar, he has to enforce this law. The Registrar has given these companies that provide exchange infrastructures an opportunity either to cease their illegal activities now, or to apply for an exchange license.
ALEC HOGG: Can I just stop you there? Are the operations that are allowing trading in BEE shares, operating illegally?
ERRIS VAN KERKEN: I believe that some of these operations are operating illegally because the Act requires you to be licensed to operate an exchange.
ALEC HOGG: Which ones are operating illegally?
ERRIS VAN KERKEN: I’d prefer not to comment on any specific counters.
ALEC HOGG: Well, which ones are operating legally, then? You have to tell us that, because if I’m a shareholder I would like to know if I’m going to be able to continue trading through that operator or not.
ERRIS VAN KERKEN: Yes, the illegality won’t affect the investor. It would affect the operators, so the Act is quite clear as to what an exchange is. As far as I know, in South Africa we actually only have one licensed exchange, which is the JSE.
ALEC HOGG: So everything else is illegal.
ERRIS VAN KERKEN: Yes, there is a bit of a history to this matter as well. From the FSB side historically, the Registrar has made a differentiation between companies providing infrastructure for trading in their own shares, which is the market making you would find in the Companies Act. The Registrar took the view quite a long time ago – under the Securities Act – that these counters weren’t actually exchanges. He has relooked at the matter. He has obtained advice from senior counsel etcetera on this matter, to see what an exchange is and he concluded that the nature of the operation is independent of the number of securities they trade on that platform. If you tick off all the boxes that the Act prescribes, then you are an exchange and you must regularise your affairs. It is set out that these exchanges could either cease their activities or they can apply for an exchange license (and it’s also provided for temporary measures) to allow these exchanges to get their affairs in order.
ALEC HOGG: Let’s just say an investor in MTN Zakhele… Where are they going to be able to trade in future if you close down the exchange they’re trading on?
ERRIS VAN KERKEN: If that exchange is not licensed and that exchange decides to close down as an exchange, the investors’ ownership in the shares would not be affected at all. I think that’s a very important point to make, that they’ll remain shareholders of MTN Zakhele shares, for example.
ALEC HOGG: Of course, they would, Errris. You can’t steal people’s shareholdings. That’s not the point. The point is you have a stock and you can’t trade it. What’s the point in having a stock? My question has to be, who has been objecting to these OTC’s? Have we had losses?
ERRIS VAN KERKEN: I can’t comment on whether there have been losses, but what I would like to tell you is that certain provisions, for example insider trading etcetera, do not apply to markets that aren’t regulated. Your investor in MTN Zakhele and unregulated markets, is actually vulnerable, so the whole idea behind the directive is investor protection – that is first and foremost, what is happening – that their needs to be investor protection for persons who trade on these platforms. If that platform does not comply with the Act, that platform as I said is illegal. There are legal intricacies here as well, for example the Companies Act. It has certain requirements regarding the issuing of prospectuses. The Companies Act states that those provisions don’t apply if the security trades only on the exchange. If the SSD doesn’t regulate that platform as an exchange, then those investors fall through the gaps, so it’s very important that these markets be regulated properly.
ALEC HOGG: We have so much happening in our country. I understand what you’re saying, but my goodness, it looks like you’re taking a sledgehammer to squash a flea here. My main question on this one is this. Are you forcing competition with the JSE? The JSE has the monopoly as we well know. Are you forcing these unregulated exchanges to become licensed so that they can compete with the Johannesburg Stock Exchange? Is that the intention here?
ERRIS VAN KERKEN: Alec, I can only comment as to what the Act says and that the Registrar is mandated in terms of the Act to enforce that Act, so it’s a law of the country that says if you’re doing a, b, and c, you are an exchange and you must be licensed. All the Registrar is saying is that there is a law that Parliament has passed. It says that this is an exchange and an exchange must be licensed. The Registrar is also mindful of the concerns raised, and that is why there is a temporary exemption period. If any of these exchanges wish to continue operating as an exchange, they have until the end of July of this year to advise the Registrar that they intend to apply for a license and they’ll have until the end of January next year, to submit such an application for an exchange.
ALEC HOGG: Have you considered what it will cost them – the additional costs that would be involved in becoming an exchange?
ERRIS VAN KERKEN: I can’t give you an exact figure on the cost, but if you apply for a license there is a Board Notice, which was published some time ago regarding the application fee for an exchange license.
ALEC HOGG: Erris van Kerken is the Senior Forensic Investigator for the Directorate of Market Abuse at the Financial Services Board. An interesting development on that side…
