Lessons from Dhaka stock mart turmoil

The recent sharp drop in share prices on Bangladesh's stock exchange and the riots that followed are stark reminders of the dangers of excessive volatility and the need for good investor education.
Since 2007, the Dhaka stock exchange has been outperforming almost all the world's markets, gaining by as much as 410 per cent over the period. It grew 83 per cent in 2010.

This "easy money" attracted banks, corporations and individuals to invest substantially in the stock market, which drove up the value of shares further.

There was no significant improvement in economic fundamentals to justify the share price surge, however, but no one dared call for restraint (or it went unheeded) when times were so good.

Individual investors, meanwhile, had grown in number from about 50,000 in 1996 to 3.2 million, many of whom only started investing in shares last year.

By the time Bangladesh's central bank stepped in to restrict banks' exposure to the stock exchange, share prices had started to fall.

On January 10, the Dhaka index fell 8.9 per cent, prompting a halt in trading and major street protests. It is believed that the government, fearing a political backlash, pumped funds into the market the next day, leading to a record one-day rise of 15 per cent.

Respite was shortlived, however, and the Dhaka index has lost more than 29 per cent since early December.

On Wednesday, regulators introduced a circuit breaker mechanism, which was triggered on that day itself, and again after 5 minutes of trading on Thursday morning. Frustrated investors took to the streets.

Cars were vandalised, furniture and tyres burnt and roads blocked. Some protestors gathered in front of the Securities and Exchange Commission (SEC) building and demanded the resignation of the finance minister and the central bank governor.

In what looks like a knee-jerk response, SEC investigations led to the suspension of six brokerage houses for 30 days due to their aggressive selling. Their managing directors and chief executive officers were also stripped of their official duties and responsibilities for the period.

Throughout this roller-coaster ride, the cardinal rule that share prices should reflect the fundamentals of the company was obviously ignored. Fundamentals means going back to basics - to look at the company's cash flow, assets, debts, and track record, among others.

Another missing element was adequate programmes and education to help individuals make wise investment decisions.

Anyone investing in the stock market should be aware of not only the attractive rewards possible, but also the potential risks. They also need tools and skills to assess where, when, and how much to invest, or if in fact they should be investing in the stock market in the first place.

These are lessons that Bangladesh's growing retail investors and market regulators will have learned from their current stock market turmoil, but also serve as a useful reminder for other capital markets as well.