PSE mulls third-party audit on brokers

The Philippine Stock Exchange (PSE) is considering the hiring of a third-party auditing firm to verify the financial condition of broker firms in line with efforts to further professionalize the bourse.

"The PSE is looking at some modifications such as third-party verification process and an accreditation system to check the financial performance of brokerage houses, " said PSE president Ernest Leung.

Leung said the move would ensure that brokers are properly disclosing their true financial health and that investors are adequately protected.

Only brokers with good financial standing and which are properly reporting their true financial status will be allowed to operate, he said.

"As an SRO (self regulatory organization), we have the authority to accredit the brokers and by doing these modifications, we would know if the brokers are properly reporting their financials," Leung said.

The Securities and Exchange Commission (SEC), for its part, is planning to impose risk-based capital standards on stockbrokerage houses to ensure that they have adequate capital to cover risks and meet contractual obligations.

The SEC’s Market Regulation Department, which oversees the exchange and its member-brokers, underscored the need to establish minimum capital standards for securities firms as additional protection for investors in case their brokerage house run into financial difficulty.

The MRD said the capital adequacy scheme is particularly valid when the systemic cost of default may be unacceptably high.

The SEC’s proposed risk-based capital model, however, will result in higher capital requirements for small brokerage houses.

The SEC believes that the adoption of the risk-based capital adequancy standards will encourage market intermediaries to adopt a more relevant approach to risk management. With the system in place, stockbroker firms would have to assess their trading books more regularly in order to understand and monitor the risk profile of their respective businesses, the MRD said.

Two countries – Malaysia and Singapore have already adopted the capital adequacy models in the regulation of the stockbrokerage business.

The Securities Commission of Malaysia approved in December 1998 the capital adequacy requirements for stockbrokerage houses which replaced the then existing minimum liquid fund rules. Prior to the adoption of the risk-based model, the rules of the Kuala Lumpur Stock Exchange did not adequately reflect the actual risk of a member company’s business activities.

In line with current international practices, the new rules work on the premise that stockbroker firms that are exposed to greater risk need more capital. Those that are exposed to less risk, on the other hand, required less capital.

At present, the SEC merely imposes a net capital requirement, the liquid portion of a broker’s capital which addresses liquidity and not minimum paid-up capital. All brokerage houses are required to maintain a P5-million net capital.