Philippines
Financial Sector Assessment Program-IOSCO Objectives and Principles of Securities Regulation Assessment

This report reviews the Financial Sector Assessment Program of the Philippines on International Organization of Securities Commissions (IOSCO) Objectives and Principles of Securities Regulation. The report was prepared by a staff team of the International Monetary Fund and the World Bank as part of the Financial Sector Assessment Program for the Philippines. It assesses the effectiveness of securities regulation, soundness of market intermediaries, and development prospects for the capital markets, including observance of the IOSCO Objectives and Principles of Securities Regulation.

Abstract

This report reviews the Financial Sector Assessment Program of the Philippines on International Organization of Securities Commissions (IOSCO) Objectives and Principles of Securities Regulation. The report was prepared by a staff team of the International Monetary Fund and the World Bank as part of the Financial Sector Assessment Program for the Philippines. It assesses the effectiveness of securities regulation, soundness of market intermediaries, and development prospects for the capital markets, including observance of the IOSCO Objectives and Principles of Securities Regulation.

I. Summary Assessment

A. General

1. A joint World Bank/International Monetary Fund mission visited the Republic of the Philippines during the period October 8-23 and November 19-December 6, 2001 as part of the Financial Sector Assessment Program (FSAP). The aim was to assess the effectiveness of securities regulation, soundness of market intermediaries, and development prospects for the capital markets, including observance of the IOSCO Objectives and Principles of Securities Regulation. This IOSCO assessment was conducted by Noritaka Akamatsu, Lead Financial Economist of the World Bank.

B. Institutional and Macroprudential Setting, Market Structure—Overview

Supervisory framework

2. The SEC is the primary regulatory authority over the capital markets and their participants. The BSP also supervises NBFIs to the extent that they have ownership links with banks, and are permitted to have quasi-banking function and trust operations and offer foreign exchange products and services. The Securities Regulation Code (SRC) is the main legal basis for the regulation of the markets. The SRC narrowed and redefined the scope of responsibilities of the SEC to enable the regulator to focus on regulation of the securities market and its enforcement in particular. However, further rationalization of the scope seems necessary and is expected. The SRC also provided for demutualization of the Philippine Stock Exchange (PSE) which addressed, among other things, the PSE’s conflicts of interest as an self-regulatory organization (SRO).

3. In addition to the SRC, the Corporation Code provides basic rules for establishment and governance of companies. There are also laws dedicated to governing each type of nonbank financial institutions (NBFIs) and universal banks participating in the market. Those include the Presidential Decree 129 on Investment Houses, the Financing Company Act of 1998 and the Investment Company Act of 1960. For each law, the SEC provides Implementing Rules and Regulations (IRR) to substantiate the laws with detailed provisions. Among the laws, the Investment Company Act is due to be amended, which is expected to bring investment advisers under the supervision by the SEC. The General Banking Law of 2000 and the BSP Manual of Regulations for NBFIs further provide rules for quasi-banking and trust functions of NBFIs and rules for universal banks and commercial banks to be engaged in the securities business and to own NBFIs subsidiaries. The BSP supervises NBFIs on the basis of this law and the regulations.

Market structure

4. The equity market is built around the Philippine Stock Exchange (PSE). It is supported by the Philippine Central Depository (PCD) and the Securities Clearing Corporation of the Philippines (SCCP) for clearance and settlement of trades. Key market intermediaries include: 44 Investment Houses 44, 174 Financing Companies, 176 Broker-Dealer firms, 19 Mutual Funds and 15 Investment Management Companies. Of those, seven Investment Houses and seven Financing Companies can have a quasi-banking function which is defined by the General Banking Law as an ability to raise financing from more than 19 creditors. The Investment Houses are permitted to conduct underwriting of new issues of securities, thus required of a greater capital base (P300 million for Investment House as compared to P100 million for Broker Dealers). As of the end of September 2001, the total assets of the mutual funds amount to slightly less than P10 billion. Most of the NBFIs are owned or affiliated to commercial banks.

5. The PSE lists 231 companies and one series of Small Denomination Government bonds. The market capitalization at the end of August 2001 was P2,429 billion (US$47 billion), representing nearly 80 percent of the GDP, a high figure for a country with per capita income of about US$1,000. On the other hand, the annualized market turnover drastically declined to P173 billion (7.1 percent turnover) in 2001 from the peak of P781 billion (40 percent turnover) in 1999. Given the substantial level of capitalization, this represents low liquidity. An important attribute to the low liquidity is the small free float portion of corporate shares (about 15 percent) due to the holding of controlling shares by founding families of the companies.

6. The debt market is dominated by the government securities which are traded in the over-the-counter (OTC) market except for the one series of Small Denomination Bonds. The total capitalization of the government securities including those issued by government-owned and-controlled companies (GOCCs) and local government units (LGUs) stood at P1,128 billion, about 30 percent of GDP, as of July 2001. Of the amount, the national government debt amounted to P1,118 billion. 40 percent of the national government debt was in the form of treasury bills which generate most of the liquidity of the government securities (i.e., 40 percent turnover for all government securities and 90 percent for T-bills). Commercial papers (CPs) are the second most important instruments. While its capitalization (P35 billion as of October 15, 2001) is very small as compared to the government securities, they are significantly more liquid (annual turnover ratio of 500 percent). Trading of government securities is dominated by commercial banks while investment houses seem to trade CPs actively.

C. General Preconditions for Effective Securities Regulation

7. Legislative bills currently being read in the congress is expected to address a need to rationalize taxation of financial instruments and services from various angles. In particular, elimination of Documentary Stamp Tax on the secondary market trading and securities lending and borrowing transactions is expected to have a significant positive impact on the market liquidity. The rationalization is also expected to provide more equal treatment and fairer market access for both domestic and foreign investors and market participants to stimulate competition.

8. The SEC and the PSE are in the process of implementing the reforms mandated by the SRC. The SEC has restructured its organization and renewing its staffing with a focus on strengthening the enforcement capacity of the SEC. These new organizational changes and capacity building need to be reasonably completed before the SEC starts functioning at its full capacity under the SRC. The PSE also corporatized itself, reformed its board and is now due to go public to restructure its ownership structure.

D. Main Findings Summary

Table 1.

Summary of Main Findings of Assessment of Implementation of the IOSCO Objectives and Principles of Securities Regulation

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E. Authorities’ Response and Recommended Next Steps

9. Principles relating to the regulators (CPs1–5). The SEC shall intensify the in-house training of its staff to enhance their skills on market surveillance, investigation and enforcement. The full computerization of our data is also going on. The Manual of Operations and Procedures for its staff is being reviewed and revised for simplicity and clarity.

10. Principles of self-regulation (CPs 6–7). The listing of the PSE is the second phase of demutualization. The Board is only waiting for the right time to go public. In the meantime, to implement the provisions of the SRC on the 20 percent ownership cap of broker dealers, the SEC has directed the PSE to offer its shares to institutional investors and has likewise suggested the ADB and the IFC to consider taking a stake in the Exchange. Discussions on ensuring the independence of the Compliance and Surveillance Group of the PSE (CSG-PSE) is being undertaken by the Market Regulation Department of the SEC. Although the PSE-CSG has already been incorporated as separate entity from that the of the PSE, the PSE President has requested for the delay of the operationalization of the CSG-PSE as an independent SRO as the PSE tries to study ways of achieving full independence of the CSG while remaining part of the PSE organizational structure.

11. Principles for the enforcement of securities regulations (CPs 8–10). On April 16, 2002, the SEC has operationalized its on-line filing for the registration of companies. Thereafter, reportorial requirements shall be filed electronically. Even the net-capital requirements from broker dealers shall be electronically fined and analyzed by our MRD.

12. Principles for cooperation in regulation (CPs 11–13). The SEC recently acquired a favorable endorsement from the Department of Foreign Affairs (DFA) to enter into MOU with its counterparts. It is currently finalizing an MOU with Indonesia’s BAPEPAM. Similar agreements with other regulators are being considered.

13. Principles for issuers (CPs 14–16). The SEC has recently approved the Code of Corporate Governance which shall be “mandatory” for all corporations whose securities are registered or listed, corporations which are grantees of permits/licenses and secondary franchise from the SEC and public companies.

14. Principles for collective investment schemes (CPs 17–20). The SEC hopes that the Revised Investment Company Act will soon be passed into law by this year. While the SEC is ready to appear any time before Congressional hearings, it has no control of what the priority Bills and schedule of our lawmakers are.

15. Principles for market intermediaries (CPs 21–24). The system to monitor Net Capital of brokers dealers is now being prepared by our MIS in cooperation with our MRD. The SEC hopes before the end of the second quarter, a system for testing shall be ready.

16. Principles for the secondary market (CPs 25–30). With the establishment and operationalization of the Fixed Income Exchange (FIE) and the revival of the Futures Exchange, the FSAP mission raised concerns that competition emerging among markets may raise doubts about credibility of their self-regulatory functions. The mission has thus suggested that the SEC provide key benchmarks through Rules and/or Orders to define what its concept of Philippine capital markets is in an environment where various exchanges compete as for-profit businesses. The SEC shall take note of this suggestion and will see to it that the mission’s concerns will be properly addressed.

II. Detailed Assessment

A. Information and Methodology Used for Assessment

17. The analysis contained in this assessment is based on information collected through extensive hearings with the SEC, the BSP, the Bureau of Treasury (BOT), numerous market participants and institutions including the Philippine Stock Exchange (PSE), the Philippine Central Depository (PCD), the Securities Clearing Corporation of the Philippines (SCCP), industry associations including the Investment House Association of the Philippines (IHAP), Investment Company Association of the Philippines (ICAP) and the Securities Brokers and Dealers Association of the Philippines (SBDAP), the Bankers’ Association of the Philippines (BAP), LGU Guarantee Corporation, the Philippine Rating Services and a number of other individual private financial institutions. In particular, the hearings with the SEC involved Chairperson, commissioners, directors, division chiefs and line officers who all impressively accommodated the demand for information, for which the assessor is grateful.

18. The assessment was based on thorough reviews of relevant laws including amendments and corresponding rules and regulations of the SEC, the BSP and the SRO (currently only the PSE) against each of the 30 IOSCO Principles for Securities Regulation. To the extent possible, it also examined supervisory capacity and practices actually developed and adopted by the SEC, the BSP, the PSE and, in some cases, even their member firms to verify actual application of the laws and regulations and their enforcement. The assessment adopted the self-assessment methodologies developed by the IOSCO and made extensive use of the High Level Survey Questionnaire and the set of five Self-Assessment Methodologies developed by IOSCO. The SEC kindly provided thorough responses to all the detailed questions in the Methodologies as well as the Questionnaire and discussed with the assessor in length wherever clarification was needed.

19. As it is clear in the above, the SEC was the primary counterpart in conducting this assessment although the BSP and the PSE also participated. All the responses to the IOSCO Questionnaire and Methodologies were prepared by the SEC. To avoid duplication with the Basle Core Principles assessment which focuses on the framework of bank supervision and the BSP’s supervisory capacity, this assessment focuses primarily on the regulatory capacity of the SEC and the PSE as far as the market authorities are concerned.

B. Institutional and Macroprudential Setting, Market Structure—Overview

Supervisory framework

20. The Philippines’ regulatory and supervisory framework is, while comprehensive in coverage, complex. It is due to the fact that the financial industry and services are increasingly conglomerated and universalized with functional regulation while the regulatory authorities remain to be fragmented. The SEC is the primary regulatory authority over the capital markets and their participants. Nonbank financial institutions (NBFIs) are regulated and supervised by the SEC. However, the BSP also supervises many NBFIs because of: i) their close ownership links with banks, ii) quasi-banking function and trust operations permitted for some of them1 based on licenses by the BSP and iii) offer of financial products and services involving foreign exchange transactions. On the other hand, Universal Banks are also permitted, based on registration with the SEC, to undertake underwriting as well as brokerage and dealing of securities. Broadly, the SEC’s regulation and supervision tend to emphasize investor protection and fair market conduct while those of the BSP tend to emphasize financial soundness of the intermediaries. Finally, the Philippine Stock Exchange (PSE) is working as a front line regulator of the market as an authorized self-regulatory organization (SRO)2.

21. While the SEC has a long history since 1936, its powers and responsibilities have been redefined by the Securities Regulation Code (SRC) issued in July 2000. Executive Order No. 192 of January 7, 2000 transferred the SEC out of the Office of the President and brought it under the “administrative supervision” of the Department of Finance (DOF).3 Prior to the SRC, the SEC had a quasi-judiciary function to rule on intra-corporate disputes and corporate rehabilitation. The SRC (Section 5.2) transferred this function out of the SEC to court. With this narrowed scope of responsibilities, the SEC can now focus more on regulation and supervision of the securities market and its participants with a greater emphasis on enforcement. However, the scope of the SEC’s responsibility still remains to be too broad firstly because the responsibility to register all corporations (publicly or privately held), partnerships and associations still remains with the SEC and secondly because the SEC is responsible for regulating and supervising a wide range of NBFIs including not only broker-dealers, investment houses and mutual funds but also financing companies, Pre-Need Plans, lending investors and others.

22. Currently, investment advisors are not regulated and supervised by the SEC except for the requirement of registration with the SEC as corporation. However, the Revised Investment Company Act of 2001 now being read in the Congress is expected to bring them under the authority of the SEC. On the other hand, Pre-Need Plans are, by the nature of the business, similar to an insurance company, and therefore, their regulatory and supervisory responsibility is expected to be transferred out of the SEC to the Insurance Commission of the DOF. The lending investors are also not securities market participants. While they are in large number (said to be 4,000 to 7,000), most of them are small single proprietorships and not registered as corporation nor as partnership with the SEC. Instead, they are registered with the Department of Trade and Industry (DTI). If some of them upgrade themselves to become financing companies, those will formally come under the supervision by the SEC.

23. The legal framework for the securities market and its participants is also complex because there is a separate law for each type of those NBFIs, and consists of the Securities Regulation Code July 2000 (SRC), the Corporation Code of May 1980, the Presidential Decree 129 on Investment Houses (PD 129), the Financing Company Act of 1998 and the Investment Company Act of 1960. For each of the laws, the SEC issued Implementing Rules and Regulations (IRR) to substantiate the law with more specific details of standards, forms and procedures.4

24. The General Banking Law of 2000 and the BSP Manual of Regulations for NBFIs further provide, among other things, rules for quasi-banking and trust functions of NBFIs. They also provide rules for Universal Banks and Commercial Banks to be engaged in the securities business and to own NBFI subsidiaries including Investment Houses and Broker Dealers and empower the BSP to supervise them. To clarify roles of each regulator in regulating and supervising different types of financial institutions and business operations, the Memorandum of Agreement (MOA) was signed between the SEC and the BSP in June 2001. The MOA clarified each regulator’s role not only between the regulators but also for the regulated. It proved to be helpful in avoiding confusions, overlaps and overlooked loopholes in the regulatory and supervisory process of the financial conglomerates and universal banks. Another important legislation passed by the Congress in October 2001 is Anti-Money Laundering Act. The SEC is preparing its IRR for the Act in consultation with the Anti-Money Laundering Council in which the BSP also participates.5

25. There are several legislative bills currently in reading in the Congress which are expected to provide important additional legal infrastructure for the capital markets. Those include House Bills on the revised Investment Company Act of 2001 (House Bill No. 2814), Securitization (House Bill No. 2759), Special Purpose Asset Vehicle (House Bill No. 3236 intended for off-loading non-performing assets of banks), Personal Equity and Retirement Account (PERA) (House Bill No. 1665) and Financial Sector Tax Reform Bill. In particular, the last has four components including: 1) introduction of Financial Institutions Tax (FIT) on banks and nonbanks, 2) introduction of Thin Capitalization Rule (TCR) or Maximum Debt Funding Percentage Rule, 3) rationalization of taxation of foreign currency deposit units (FCDUs) and 4) rationalization of the documentary stamp taxes (DST). Elimination of DST on secondary market trading and securities lending and borrowing transactions is expected to have a significant positive impact on liquidity of the securities market. For those lending investors which are not able to upgrade themselves to become financing companies, there is currently a Lending Company Act being considered as part of the Micro Finance Program, which, if promulgated, may transfer their supervisory responsibility out of the SEC to the DTI or local authorities.

Market structure

26. Key market institutions include the Philippine Stock Exchange (PSE), the Philippine Central Depository (PCD) and the Securities Clearing Corporation of the Philippines (SCCP). Key market intermediaries include: Investment Houses (7:37), Financing Companies (7:167), Broker-Dealer firms (176), Mutual Funds (19) and Investment Management Companies (15). Of those, Investment Houses and Financing Companies can have a quasi-banking function which is defined by the General Banking Law as an ability to raise financing from more than 19 creditors.6 The numbers in the parentheses indicate numbers of licensed firms. For the Investment Houses and Financing Companies, the first numbers show those with a quasi-banking function and the second numbers, those without. A key difference between the Investment Houses and Broker Dealers is that the former is permitted to conduct underwriting of new issues of securities, thus required of a greater capital base (P300 million for Investment House as compared to P100 million for Broker Dealers). As of the end of September 2001, the total assets of the mutual funds amount to slightly less than P10 billion. It is also noteworthy that most of the NBFIs are owned or affiliated to commercial banks. In fact, some commercial banks have been licensed as Universal Banks under the Universal Banking Act. Theoretically, they are permitted to conduct securities business directly under their roof. However, most of them have so far chosen to do the business through subsidiary broker dealers and/or investment houses.

27. The PSE, which was created by a merger between the Manila Stock Exchange and the Makati Stock Exchange in 1994, lists 231 companies including one small and medium size company as of end August 2001. It also lists one series of Small Denomination Government Bonds. The total market capitalization as of end August 2001, not including the government bonds, stood at P2,429 billion (US$47 billion) representing a slight decline since the end of 2000 but surpassing the pre-crisis peak of P2,122 billion in 1996. As of end 2000, the ratio of market capitalization to the GDP was 78.1 percent while its pre-crisis peak was 97.8 percent in 1996, indicating a quite significant size of the market for a country with per capita income of about US$1,000. However, the annualized market turnover for 2001 has declined to P173 billion from the peak of P781 billion in 1999, reflecting a fragile recovery from the crisis. In terms of number of shares traded, the decline is more striking; i.e., annualized volume for 2001 has declined to 192 billion shares from the hay days of 2,274 billion shares in 1996. Because of this depressed market activities, the PCD and the SCCP (and to some extent the PSE), whose revenues depend significantly on the trading volume, are currently experiencing financial difficulties. The market turnover ratio for this year is only 7.1 percent while that for the year of recovery (i.e., 1999) was 40 percent. By any scale, the market is illiquid for a market with capitalization of about 80 percent of the country’s GDP. An important attribute to this generally low liquidity despite the high capitalization is the small free float portion of corporate shares (about 15 percent) due to the holding of controlling shares by founding families of the companies.7

28. The domestic debt market is dominated by the government securities which are traded in the over-the-counter (OTC) market with an exception of one series of Small Denomination Bonds listed on the PSE. As of end July 2001, the market capitalization, including that of debt issued by government owned and controlled companies (GOCCs) and local government units (LGUs), stood P1,128 billion, i.e., about 30 percent of the GDP. Of the amount, P1,118 billion is of the national government debt including government-guaranteed debt of GOCCs, LGUs, etc. It is likely to increase further due to the expected budget deficit of the government. The capitalization of commercial papers (CPs), the second most important debt instruments, stood at P35 billion as of October 15 this year and declined from P44 billion at end 2000. The decline was due to the depressed demand for credit by companies and businesses. However, the liquidity of the instruments is much higher as compared to that of the equity. The annual turnover ratio for the CPs is around 500 percent while the government securities is roughly 40 percent. The most of the turnover for the government securities is attributed to short-term T-bills which account for over 40 percent of the total capitalization of the domestic government securities and have an annual turnover ratio of about 90 percent. The trading of the government securities is dominated by commercial banks (said to be 7080 percent) while investment houses seem to trade CPs actively. Generally, the liquidity of the government securities is low compared to that of developed market which can surpass 10 times a year (i.e., over 1,000 percent annual turnover). In particular, long-term bonds including Treasury bonds are rarely traded.

C. General Preconditions for Effective Securities Regulation

29. Among the legislative bills currently in reading in the Congress, House Bill on the revised Investment Company Act of 2001 (House Bill No. 2814) is expected to allow foreign investors to have representation in the board of directors of mutual funds. On the other hand, the Financial Sector Tax Reform Bill, which is currently being read in the Congress, is expected to reduce or eliminate the privilege currently enjoyed by foreign banks through the introduction of Maximum Debt Funding Percentage Rule. These are intended to provide more equal treatment and fairer market access for both domestic and foreign investors and market participants.

30. The Financial Sector Tax Reform Bill has three additional components including: 1) introduction of Financial Institutions Tax (FIT) on banks and nonbanks, 2) rationalization of taxation of foreign currency deposit units (FCDUs) and 3) rationalization of the documentary stamp taxes (DST). In particular, elimination of DST on secondary market trading and securities lending and borrowing transactions is expected to have a significant positive impact on liquidity of the securities market. In addition, Securitization (House Bill No. 2759), Special Purpose Asset Vehicle (House Bill No. 3236 intended for off-loading non-performing assets of banks) and Personal Equity and Retirement Account (PERA) (House Bill No. 1665) also involve elements to rationalize taxation on creation of the new financial schemes, instruments and transactions. Passage of these bills are awaited to provide a more leveled playing field for market participants, eliminate impediments for transactions and trading and encourage liquidity in the market.8

31. The SRC provided a basis for two important reforms to ensure effective securities regulation. One is the redefining of the SEC’s regulatory responsibility and associated reorganization and capacity building efforts, and the other is the demutualization of the PSE. Firstly, the SRC transferred out from the SEC the quasi-judiciary function to rule on intracorporate disputes and corporate rehabilitation, which made the scope of the SEC’s responsibility more manageable. Prior to the SRC, the SEC had this quasi-judiciary responsibility over not only publicly held companies abut all companies including privately held ones incorporated in the Philippines. The SEC was then heavily overburdened with this responsibility and could not devote adequate resources to supervision of the securities market and industry and enforcement of the securities regulation.9 In response to the narrowed responsibilities, the SEC fundamentally reorganized itself as of the end of 2000 as mandated by the SRC. However, it is still in the process of building its capacity to reorient itself to enforcement. For example, it has once almost halved the number of staff from 708 and is now trying to fill about 70 positions to bring up the number to the planned 428. The staff also need to be trained to enhance their enforcement skills.

32. The SRC also provided three critical strengths to the SEC to facilitate the reorganization efforts. One is the enhanced salary standards to attract and retain highly qualified staff. Another is enhanced financial resources for the SEC to provide the salary and improve its management information systems (MIS). The other is the indemnification of the commissioners and staff from law suits in the bona fide discharge of their functions and powers.10 The enhanced salary standards seem to be already attracting good attention among qualified college graduates and financial and legal professionals. While the indemnification of the commissioners and staff will provide more confidence and security in enforcing the laws and regulations, the ongoing hiring effort is taking time due to the need to take best advantage of the interest of many qualified. These new organizational changes and capacity building need to be reasonably completed before the SEC starts functioning at its full capacity under the SRC.

33. The other important reform is the demutualization of the PSE. The PSE has been criticized for being a cozy club of member brokers at the expense of their client investors. Hence, in the wake of the BW scandal, the PSE’s SRO license was once suspended by the SEC in March 2000. By the passage of SRC, the demutualization was made a requirement and a majority of directors of its board had to be non-brokers. The PSE implemented the demutualization and associated reform of its board in August last year and, by doing so successfully persuaded the SEC to restore its SRO status. However, the ownership of the PSE still remains 100 percent with the participating brokers, which leaves some doubt about the credibility of the PSE to act in the interest of investors rather than the brokers.

34. The concentration of the PSE’s ownership in the participating brokers appears to be also affecting the business interest of the Securities Clearing Corporation of the Philippines (SCCP), which is a majority controlled subsidiary of the PSE. To ensure safe settlement, the SCCP needs to provide proper disciplines for the participating brokers to comply with the rules to control exposures and settlement. This includes imposition of appropriate penalties and/or sanctions when any participating broker defaults. The current concentration of the ownership appears to be making it difficult for the SCCP to act against the business interest of the participating brokers. Hence, diversification of the PSE’s ownership by going public needs to be carried out as soon as possible as required by the SRC.

35. Finally, effective securities regulation requires investors well educated of their rights and ways to protect those. The investor base in the Philippines is still thin and understanding of the general public about the securities investment is very limited. Broadening the investor base is a challenging task because of the damage to the public image of the securities investment caused by the BW scandal. In addition, the thin free float portion of the listed equity makes it difficult to attract individual investors. The SEC and the PSE need to conduct an educational campaign to enhance investors understanding of securities investment, their rights in doing so, ways to protect those and means available for them to do so. At the same time, they also need to work on enhancing the corporate governance of listed companies which are currently predominantly owned and controlled by the founding families.

D. Principal-by-Principle Assessment

36. Section 2 of the SRC provides the State Policy as the objectives which the SRC is enacted to achieve. In comparison with the three objectives provided by the IOSCO, the State Policy objectives expressly include investor protection. One of the IOSCO objective of ensuring the market being fair, efficient and transparent is implicitly provided in the expression to eliminate or minimize fraudulent or manipulative devices and practices which create distortions in the free market. However, the third objective of IOSCO, the reduction of systemic risk, is not expressly recognized in the State Policy. Instead, the State Policy emphasizes promotion of development of the market and its role to achieve social equity. The explicit recognition of self-regulation in the State Policy is also noteworthy. Generally, these emphases and characteristics of the law are consistent with the actual regulatory standards and practices of the SEC.

Table 2.

Detailed Assessment of Implementation of the IOSCO Objectives and Principles of Securities Regulations

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Table of observance of individual principles

Table 3.

Compliance with the IOSCO Objectives and Principles of Securities Regulation

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I: Implemented.

PI: Partially Implemented.

NI: Not Implemented.

NA: Not applicable.

III. Recommended Plan of Action and Supervisory Response to the Assessment

A. Supervisory Response

37. Principles relating to the regulators (CPs 1–5). The SEC shall intensify the in-house training of its staff to enhance their skills on market surveillance, investigation and enforcement. The full computerization of our data is also going on. The Manual of Operations and Procedures for the staff is being reviewed and revised for simplicity and clarity.

38. Principles of self-regulation (CPs 6–7). The listing of the PSE is the second phase of demutualization. The Board is only waiting for the right time to go public. In the meantime, to implement the provisions of the SRC on the 20 percent ownership cap of broker dealers, the SEC has directed the PSE to offer its shares to institutional investors and has likewise suggested the ADB and the IFC to consider taking a stake in the Exchange. Discussions on ensuring the independence of the Compliance and Surveillance Group of the PSE (CSG-PSE) is being undertaken by the Market Regulation Department of the SEC. Although the PSE-CSG has already been incorporated as separate entity from that the of the PSE, the PSE President has requested for the delay of the operationalization of the CSG-PSE as an independent SRO as the PSE tries to study ways of achieving full independence of the CSG while remaining part of the PSE organizational structure.

39. Principles for the enforcement of securities regulations (CPs 8–10). On April 16, 2002, the SEC has operationalized its on-line filing for the registration of companies. Thereafter, reportorial requirements shall be filed electronically. Even the net-capital requirements from broker dealers shall be electronically fined and analyzed by our MRD.

40. Principles for cooperation in regulation (CPs 11–13). The SEC recently acquired a favorable endorsement from the Department of Foreign Affairs (DFA) to enter into MOU with its counterparts. It is currently finalizing an MOU with Indonesia’s BAPEPAM. Similar agreements with other regulators are being considered.

41. Principles for issuers (CPs 14–16). The SEC has recently approved the Code of Corporate Governance which shall be “mandatory” for all corporations whose securities are registered or listed, corporations which are grantees of permits/licenses and secondary franchise from the SEC and public companies.

42. Principles for collective investment schemes (CPs 17–20). The SEC hopes that the Revised Investment Company Act will soon be passed into law by this year. While the SEC is ready to appear any time before Congressional hearings, it has no control of what the priority Bills and schedule of our lawmakers are.

43. Principles for market intermediaries (CPs 21–24). The system to monitor Net Capital of brokers dealers is now being prepared by our MIS in cooperation with our MRD. The SEC hopes before the end of the second quarter, a system for testing shall be ready.

44. Principles for the secondary market (CPs 25–30). With the establishment and operationalization of the Fixed Income Exchange (FIE) and the revival of the Futures Exchange, the FSAP mission raised concerns that competition emerging among markets may raise doubts about credibility of their self-regulatory functions. The mission has thus suggested that the SEC provide key benchmarks through Rules and/or Orders to define what its concept of Philippine capital markets is in an environment where various exchanges compete as for-profit businesses. The SEC shall take note of this suggestion and will see to it that the mission’s concerns will be properly addressed.

B. Recommended Action

45. Overall, the Philippines scores very well against the IOSCO Principles thanks to the conscious efforts having been made in the recent past. Some improvements are needed in the areas of collective investment schemes and secondary market regulation. Remaining issues in other areas are either currently being addressed or relatively minor.

Table 4.

Recommended Actions to Improve Compliance with the IOSCO Objectives and Principles of Securities Regulation

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1

Investment houses and financing companies may have quasi-banking functions subject to BSP licensing and supervision under the General Banking Law of 2000. License for trust functions can also be granted for NBFIs under the Law.

2

While other industry bodies or market institutions such as the Investment Company Association of the Philippines (ICAP) and the Securities Clearing Corporation of the Philippines (SCCP) set code of conducts for the members, they are not (yet) formally recognized as SROs.

3

i.e., the SEC is accountable to the DOF for its financial efficiency and operational effectiveness but free from the DOF’s interference with day-to-day activities, as defined in the Administrative Code of 1987 (Section 38, Chapter 7, Title III, Book IV).

4

I.e., i) Implementing Rules and Regulations of the Securities Regulation Code; ii) SEC Circular No. 4, 2001 on Procedures in the Enforcement of the Corporation Code, iii) the SRC and other Existing Laws Implemented by the Commission; iv) Basic Rules and Regulations to Implement the Provisions of Presidential Decree No. 129; v) Rules and Regulations to Implement the Provisions of the Republic Act 8556 (i.e., the Financing Company Act); vi) New Rules on the Registration and Sale of Pre-Need Plans under Section 16 of the SRC.

5

The SEC’s IRR for the Act is to be coordinated with its SRC Rule 30.2-6 on Supervision against SRC Article 30 on Transactions and Responsibility of Brokers and Dealers and the Model Internal Supervision and Control and Compliance Procedures to be adopted by broker-dealers, investment houses and universal banks.

6

Instruments issued by a quasi bank which are sold to more than 19 creditors are considered “deposit substitutes” and are subject to the reserve requirement. Commercial papers (CPs) and even Treasury securities on repurchase agreements (repos) can be included among such instruments if sold to more than 19 investors/counterparties.

7

This implicates existence of some corporate governance problems.

8

In addition to the bills and recently amended laws, the Memorandum of Agreement between the SEC and the BSP has clarified supervisory responsibilities of the SEC and the BSP in regulating and supervising universal banks and NBFIs which are members of financial conglomerates including banks and/or have quasi-banking functions and/or trust functions. The MOA not only filled loopholes and rationalized the responsibility sharing but also made those clearer to the regulated and thus effectuated the securities regulation.

9

Introduction of an electronic filing system for registration of companies and public issues of securities is also currently studied to reduce the still heavy workload in the SEC related to companies so that it can further focus on other regulatory, supervisory and enforcement activities than processing of the documents.

10

These measures to strengthen the SEC which are often politically difficult to adopt were made possible due largely to the strong public concerns about the investigation of the controversial price manipulation case of the Best World Resources (BW) Corporation.