Sri Lanka ready to leapfrog with focus on economic development

Following is the speech delivered by SEC Chairman Dr. Nalaka Godahewa at the Capital Market Road Show in Dubai on 3 June

Senior Minister of Monetary Co-operation and Deputy Minister Finance Sarath Amunugama, Deputy Minister for Investment Promotions Faiszer Mustapha, Colombo Stock Exchange Chairman Krishan Balendra, BOI Chairman Dr. Lakshaman Jayaweera, SEC Commission Member Priyantha Fernando, distinguished invitees, ladies and gentlemen, I am privileged to be here addressing this large gathering of UAE-based fund managers.

This event is part of a series of investment promotions road shows that we have planned for this year. In fact this is our second road show in 2013. The first road show was held in Mumbai in February and our next road show will be held in Hong Kong in September 2013 to be followed by Singapore in November 2013.

As fund managers I am sure all of you would agree that global investment appetite is now shifting from the developed markets towards emerging and frontier markets because of the enormous opportunities these markets offer. However, we in Sri Lanka still face the problem of not yet being visible.

Sri Lanka’s story

Many global fund managers are yet to find Sri Lanka as a potential investment destination. This is the very reason why Sri Lanka’s capital market industry has taken this initiative to come here and present to you our story. It is indeed a story which is quite attractive in the current context.

Sri Lanka is an interesting country geographically and historically. It is strategically located on the major shipping route connecting the East to the West. It is also a country with a long history.

One can even find references about Sri Lanka in the oldest written text of the world, the Bible. At numerous places in the Bible a sea port named Tarshish is mentioned. It is the port from which ships brought the great king Solomon of Jerusalem precious stones, ivory peacocks and monkeys according to the Bible. This mix of trading items were obviously available in Sri Lanka and many scholars believe Tashish was in fact the current Galle Port in the southern part of Sri Lanka.

This is the country ancient Greeks called Taprobane which the Arabs knew as Serendib. The great Chinese Naval Admiral Zeng He of the 14th century embarked six times in Sri Lanka during his famous seven voyages and even erected a trilingual stone inscription in Galle during one of his visits. For centuries Sri Lanka was a thriving trading nation well known to the world. In the famous Ptolemy map of the 2nd Century, Taprobane is shown bigger than India, which indicates the commercial importance of the country as a maritime hub to the trading nations at that time.

In the recent past, however, Sri Lanka has been better known for a decades-long internal conflict. The war with the LTTE, one of the most brutal separatist groups that the world has ever seen, kept the Sri Lankan economy stagnant for almost 20 years. Fortunately the war on terrorism ended in May 2009 with victory for the Government forces. It was a decisive victory. We can proudly claim today that Sri Lanka is one country that has completely wiped out terrorism and achieved total peace.

A new beginning

Sri Lanka is now ready to leapfrog into the future with an undivided focus on economic development. The biggest obstacle to attracting FDIs has been removed. More land is available to develop and cultivate. More funds are available with the Government for infrastructure development as war expenditure is no longer required. With a 92% literacy rate, a large educated and trainable workforce is ready to be employed in new industries. It is a new beginning for the country.

Sri Lanka is today an attractive place for someone to not only invest, but also to work and live. It boasts of a well-established Judiciary, a strong and resilient banking sector, liberalised financial markets, a thriving telecommunication industry, clean cities, world class medical care, convenient living and an investor friendly environment.

After the war the Government has taken upon itself the task of building the infrastructure required to support the expected economic growth. During the last four years after the war so much has been already done in developing infrastructure.

The new sea port in Hambantota was launched in November 2012 while the existing Colombo Port is being expanded. The new International Airport in Mattala was launched in March 2013 while the existing international airport at Katunayake is also being expanded.

Highways are being built all over the country connecting all major cities. A 300 MW new coal power plant in Norochcholai was launched in March 2011 and two more phases are to be added, taking total capacity to 900 MW. Another major power plant is due to be built in Sampoor. Several new irrigation projects have been completed after the war. Large-scale investments have been made in the telecommunication sector, making it one of the best in South Asia. These efforts have been already noticed by the world.

In February this year a HSBC Global research publication had the following to say about Sri Lanka: “Despite being one of the smaller economies in emerging Asia at US$ 60 b in 2012, Sri Lanka’s infrastructure development contribution is greater than many of its neighbouring countries and could be considered on par with Malaysia and China.”

Peace dividends

Let us look at the peace dividends. Today we have an economy showing steady growth. In the last 10 years GDP grew only by 6.4% p.a. However during the last two years the economy has been growing at an average 7.3% p.a. GDP growth rate is expected to reach around 8% by 2014-2015.

Current GDP stands at US$ 60 b and it is expected to reach US$ 100 b by 2016. Per capita income doubled within the last five years to US$ 2,923 and it is expected to reach US$ 4,000 by 2016. Inflation, which averaged 9.7 % p.a. for the last 10 years, is gradually coming down.

During the last two years inflation was averaging around 7.1 % p.a. and it is expected to decline further. The unemployment rate, which was around 9% 10 years ago, has been reduced to the historically low level of 4.0% by 2012. We also see drastic reduction in poverty levels from 22.7% in 2002 to 8.9% by 2012.

Improving ratings

While the international rating agencies have been downgrading ratings of many countries around the world, we have been able to gradually improve our status. Today rating agencies Fitch, S&P and Moody’s all reflect stability in their ratings of Sri Lanka.

We are actually expecting these rating agencies to seriously consider upgrading our ratings given the fact that vast improvements have already taken place in the country whereas rating agencies have been quite conservative in reflecting them in the ratings due to their bad experiences elsewhere in the world. Our intention is to reach investment grading as fast as possible so that it will help further development of our economy with greater acceptance by international investors.

Another a key indicator of our progress is fast improving country rankings. During the last three years since the end of the war, we improved our ranking in the ‘Global Competitiveness Index’ from 69th place to 52nd place. Our ranking in the ‘Doing Business Index’ improved from 92nd place to 81st place. In the ‘Global Economic Index’ our ranking improved from 110 the place to 97th place. In the ‘Human Development Index’ the ranking improved from 102 to 91.

In all these we are ahead of most of regional counterparts such as India, Pakistan, Vietnam, Cambodia, China and Indonesia. The other important factor of course is the speed at which we are improving. We can only go up from here.

Capital market

Since the purpose of gathering here today is to understand the prospects of Sri Lanka’s capital market, let us spend some time understanding it. The securities market of Sri Lanka is currently 98% equity and 2% debt. This is an unusual composition as in many other markets the bond market is either bigger than equity market or of substantial size.

Perhaps the uncertainty in currency fluctuations and volatility of inflation during the war times would have discouraged the corporate bond market. Even the equity market development was affected due high interests prevailed in the country.

When the government is a major borrower due to war expenditure, Treasury bill rates remain high and many investors find them a safer investment than the equity market. Also we have not seen a conscious and focused effort until recently to develop the capital market, which is reflected from the relatively smaller market capitalisation of US$ 19.7 b at Colombo Stock Exchange. We have 287 listed companies currently and one more IPO was recently approved. Most of the large private sector and public sector companies are not listed yet.

The market however has been performing well after the end of the war. During the last 12 months the market has given a return of 31% where as the year-to-date return is 15.8%.

I saw an article today in a local newspaper which says the year-to-date returns of the Colombo Stock Exchange have beaten most of the BRICS countries. In fact since 2009 CSEALL has outperformed almost all major global and regional indices. We had our ups and downs but today the market is growing at a steady phase and we are happy to note that fundamentally strong stocks are performing better. This will help the sustainability of the market in the long run.

Market PEs are still comparatively lower than our regional counterparts and in the recent past we have experienced considerable interest from foreign investors. For example, the percentage of foreign activities in the market which was around 10% in 2011 and 24% in 2012 has already grown above 40% during the first five months of 2013.

However we still have a problem with market liquidity. The average free float of companies in the market is around 24%. As a result the turnover to market capitalisation is currently about 10%. We have presented a consultation paper to discuss with the public and stakeholders whether we should introduce a mandatory free float requirement such as 20%- 25%. This has been already done in most of the other markets in the region.

Regulatory framework

I have noticed when potential foreign fund investors meet us they are keen to understand our regulatory framework. The Securities and Exchange Commission of Sri Lanka was established in 1987 under the SEC Act No. 36 and the Act was amended in 1991, 2003 and 2009 to be in line with market requirements. Further amendments have been already drafted and we believe the new amendments to the SEC Act will be presented in Parliament by end this year.

We can summarise the major objectives of the SEC act as threefold: to protect the interests of investors in securities, to promote the development of securities market, and to regulate the securities market. Some of the institutes we regulate are the Colombo Stock Exchange, stock broking companies, unit trust management companies, credit rating agencies, margin traders and investment managers. There are two primary functions of SEC. They are the regulatory functions and the development functions. The regularity functions involve: licensing and regulation of stock exchanges, licensing and regulation of stock brokers and dealers, licensing and regulation of unit trust management (mutual funds) companies, registering market intermediaries, enforcement actions against fraudulent and unfair trade practices related to securities markets, regulating substantial acquisitions of shares and takeovers of companies, regulating listing and issue of securities in the Stock Exchange and regulating takeovers and mergers.

The development functions involve: investor education, training of market intermediaries, promoting ethical and fair practices within the industry, advising the Government on the development of the capital market, conducting research and publishing information useful to the market participants and promoting self regulatory organisations.

Action plan

Given the current need to expedite the development of the capital market we have taken an active interest in driving the overall market development strategy of the country. Accordingly we have now introduced a 10 point capital market development action plan for the next three years. They are:

1. Expedite SEC Act amendments.

2. Demutualise the CSE

3. Strengthen risk management systems (RMS, CCP, DVP risk based capital/supervision, broker back office)

4. List more companies (public and private)

5. Attract new funds (foreign and local)

6. Develop the corporate debt market

7. Develop new products (derivatives, commodities)

8. Develop unit trusts

9. Upgrade infrastructure (trading, back office systems, etc.)

10. Intensify education and awareness

The country has a target of becoming a US$ 100 b economy by 2016. The per capita income by that time is expected to be US$ 4,000. As for the capital market, whose market capitalisation is currently around 30% of GDP, we have set a target of reaching 50%. This will also include moving closer to the US$ 10 b bond market. Though US$ 50 b by 2016 looks a tough target, we prefer to work towards it. If we continue to have the Government blessings and all industry stakeholders work together implementing the 10 point action plan, we should be able to reach this objective.

So ladies and gentlemen you have an offer in front of you. Sri Lanka’s capital market is growing and expected to be one of the most dynamic capital markets in the region in time to come. So it is time to enter the market. Don’t miss this opportunity.