The Massive Risks & Gaping Loopholes that are driving investors off the Nairobi Stock Exchange

On February 19, 2007, Edward Ntalami, Chief Executive Capital Markets Authority (CMA) issued a notice that Francis Thuo and Partners have been barred from accessing the trading floor of the Nairobi Stock Exchange for 14 days to enable it address certain financial, operational and non compliance issues. The statement went further to state that the firm was directed to temporarily halt further trading and dealing, address the non compliance issues and deal with pending obligations to its clients.

The firm has since been placed by the CMA under management under the Nairobi Stock Exchange.

It is estimated that a sum of KES 140 million has gone down with this broker.

Investors, who initially thought they were covered to the full extent of their investment, were shocked to hear Mr. Ntalami say that each of them could only expect a maximum sum of KES 50,000/= compensation from the Capital Markets Authority.

The loop holes now existing in the electronic trading system of the Nairobi Stock exchange are simply mind boggling and permitted Francis Thuo (and perhaps others) to:

i) give the brokers free access to their clients’ investments, unlike in the past where share certificates, a crucial document that was required for any transaction, was held by the investor and would only be surrendered when the investor wanted to liquidate his stocks.

ii) allow dealers to sell the shares when they hit a certain peak without the shareholders’ consent, only to replace them when the prices dip, making a killing in the process.

Mr Daniel Mwaniki is reported to be one such victim of exploitation by the unethical brokers.

After being a client for over 22 years at the now ailing stock brokerage firm, Francis Thuo and Partners Ltd, Mwaniki was shocked when he noticed that his broker, without his consent, had sold his 4,000 National Bank of Kenya shares valued at over Sh200,000 in January this year.

Upon making an enquiry, one of the firm’s directors, Mr Peter Thuo, hastily credited Mwaniki’s account with 3,000 NBK shares and bought him an additional 1,000 shares at a cost of Sh40,000.

A short text message from the director to Mr Mwaniki reads thus: "We have put back in your account 4,000 NBK shares as agreed. Thank you. Peter Thuo."

Regulator inaction

It is very disturbing to note that the legal custodian of shareholders’ investments and the market regulators — the state owned Capital Markets Authority (CMA) through the Central Depository and Settlement system, has all along been aware of the current loop holes and actual exploitation of the system.

In October last year, the CEO of the Central Depository System is alleged to have been quoted in a local daily as saying that it is "technically possible" for a stock broker to initiate a transaction without consent, and warned that shareholders should question any suspicious transactions reflected in their statements.

Lack of verification requirements

Prior to the commencement of the Automatic Trading System at the NSE, a written authorisation and a share certificate from the shareholder was required for any dealing in an investors’ shares to be commenced by a broker.

This requirement appears to have been ignored by stock brokers. Indeed, No verification by the shareholder is required before a share transfer is effected.

Present customary practice is that brokers from the different stock brokerage houses post orders from their clients into the system, which then automatically matches them without any requirement for authorisation by the shareholder.

Mr Wellington Mutuku Mbondo is reported to be another victim of the stock brokers.

His four thousand five hundred shares (4,500) of Kenya Power and Lighting Company (KPLC) were sold in January without his consent. He discovered that they had been sold when he got his statement from the CDSC weeks later.

With each KPLC share trading at Sh278 at close of the market on Friday, last week, Mr Mbondo is facing a possible loss of Sh1.25 million. To add to his misery, Francis Thuo were his stock brokers.

Widespread

Similar stories have been reported involving a number of other stock broking firms.

Lack of transparency and action by the CMA

It has been reported that many investors with complaints have been unable to obtain any sort of action from the CMA.

Francis Thuo has been having financial problems for quite a while, but the CMA has conveniently failed, refused and/or ignored to take action to prevent members of the public from pouring their money into the Francis Thuo bottomless pit.

Reported Irregularities on the trading floor

During Eveready IPO’s first day of trading at the stock market, a ‘hitch’ in the system was said to have restricted the share price movement to a rate above 10 per cent. Under normal circumtances the first day of trading of an IPO, the share price can fluctuate by margins of more than 10 per cent of the initial price.

The CMA opted to leave it to Nairobi Stock Exchange to issue a public statement. This was the situation again when news of the CFC/Stanbic banks merger talks that saw the bank’s share price soar to Sh900, which was later attributed by the NSE to be a 'mistake'.

UCHUMI remains suspended from the Nairobi Stock Exchange and the CMA has not given any indication as to when, if ever, investors may redeem the values of their shares in the company.

The above are serious anomalies....which need redress. Not only do investors have to deal with fluctuation of share prices, they also have to contend with insufficient regulatory laws and a slow moving and non-anticipatory Capital Markets Authority.

Is it any surprise that stocks at the Nairobi Stock Exchange are now falling on a daily basis, in spite good earnings reported by the companies?

The risk is yours.