The Chief Executives,
All Banks / DFIs
Dear
Sirs / Madam,
UNDERTAKING OF BROKERAGE BUSINESS
BY BANKS/DFIs
Some
banks/DFIs have shown their interest for undertaking brokerage
business. While State Bank of Pakistan encourages banks/DFIs
to diversify their activities, bring innovative financial
products to the market, broaden the product offerings, etc.,
it wants banks/DFIs to develop and put in place effective
internal controls, checks and balances to ensure that activities
are conducted in a prudent manner. Henceforth, the banks/DFIs
will be allowed to conduct brokerage business through their
separately setup subsidiaries for this activity. It, however,
needs to be ensured that the relationship between the bank/DFI
and its brokerage subsidiary is on an arms length basis
and foolproof firewalls have been built to avoid conflict
of interest and to restrict the banks/ DFIs’ responsibilities
and liabilities vis-à-vis their brokerage subsidiaries.
In this backdrop, following regulations are being issued
for banks/DFIs intending to undertake brokerage business
through subsidiaries:
1. The banks/DFIs desirous of undertaking brokerage business
shall obtain prior approval from State Bank of Pakistan.
While applying to State Bank of Pakistan for approval, besides
the other information that State Bank may require, the bank/DFI
shall submit the complete feasibility study, the amount
of investment to be made by the bank/DFI in the paid-up
capital of the subsidiary and the structure of both the
proposed Board of Directors (including the names of the
directors to be nominated by the bank/DFI) and management.
2.
The brokerage business shall be conducted through a separate
subsidiary, which will be a limited company. The bank/DFI
will ensure that the subsidiary works as a completely independent
and different entity.
3.
In order to allow the subsidiary to take benefit of the
brand name, the brand name of the bank/DFI is allowed to
be used in the name of subsidiary. However, it shall be
ensured that the word ‘Bank’ is not used in
any manner in the name of the subsidiary.
4.
Before commencement of business by the subsidiary, the bank/DFI
will prepare written procedures for creating / building
firewalls between the bank/DFI and the subsidiary. It will
be ensured that the relationship is not used to access the
confidential information of the customers / clients of the
bank/DFI. Bank’s/DFI’s customers may, however,
deposit money in the bank/DFI to be used as margin against
trading through the subsidiary.
5.
The banks/DFIs shall obtain prior approval of State Bank
of Pakistan before increasing their investment in the equity
of the subsidiary.
6.
The management of the subsidiary will be completely different
from the management of the bank/DFI. No person will be allowed
to hold positions simultaneously in the bank/DFI and in
the subsidiary. Employees will not be transferred from the
subsidiary to the bank/DFI or vice versa. The bank/DFI may,
however, send its employees on deputation to the subsidiary.
The bank/DFI may also provide support functions / services
like human resource, administration, accounting, Information
Technology and other secretarial & general services
for the subsidiary and share costs of overheads and fixed
assets on predetermined terms and conditions.
7. Board of Directors of the subsidiary will be completely
independent and different from the Board of Directors of
the bank/DFI. The bank/DFI may nominate its employees on
the Board of Directors of the subsidiary upto 40% of the
total directors nominated by the bank/DFI and the remaining
directors nominated by the bank/DFI should be independent
individuals.
8.
In case, the members of the Board of Directors of the bank/DFI
and their family members or employees of the bank/DFI and
their family members wish to conduct sale and purchase of
shares or securities or any other trading through the subsidiary,
they will disclose all the transactions conducted through
the subsidiary to the bank/DFI by submitting periodical
statements on regular basis. The format of such reports
and their periodicity may be determined by the bank/DFI
themselves.
9.
The subsidiary will not undertake, either on its own or
on behalf of its clients, sale and purchase of the shares
of the bank/DFI or securities issued by the bank/DFI.
10.
While it is expected that banks/DFIs would have instituted
effective checks and balances and internal controls in their
dealing rooms, deals conducted through their subsidiary
should be monitored more closely. All deals of the bank/DFI
conducted through the subsidiary must be made from designated
fixed telephone lines installed in the dealing room and
connected to a voice recording system. All trades of the
bank/DFI executed through the subsidiary during the day,
for which contracts and bills are received, must be matched
with recorded conversations as well as all verbal orders
given during the day, that have been taped, must be backed
by contracts / bills at the end of the day to ensure that
all deals have been properly taken into account.
11.
The sale and purchase of shares and securities conducted
through the subsidiary, in the first year of operations
of the subsidiary, should not exceed 50% of the trading
undertaken by the bank/DFI. In subsequent years, the trading
through their own subsidiary should not exceed 25% of the
total trading conducted by the bank/DFI. For the purpose
of this regulation, the shares and securities will be valued
at market rates.
12.
The bank/DFI may utilize their distribution channels for
selling the products of the subsidiary. However, for this
purpose, the bank/DFI will execute written agreement with
the subsidiary. The agreement should interalia lay down
the sales terms and conditions, features of the products
to be sold by the bank/DFI on behalf of the subsidiary and
fees to be charged by the bank/DFI for this purpose. The
bank/DFI will take appropriate measures to disclose to the
buyers of such products that they are buying the products
of the subsidiary and not that of the bank/DFI and the bank/DFI
is not guaranteeing or undertaking the repayment of any
sort. The banks/DFIs should also ensure that the products
offered by the subsidiary and distributed / sold by them
do not resemble the products of the bank/DFI.
13.
The subsidiary may share the systems or other infrastructure
of the bank/DFI as allowed under Regulation 6 of this circular.
The premises of the bank/DFI may be utilized by the subsidiary,
on an arms length basis and subject to the condition that
both the bank/DFI and its subsidiary are made clearly and
prominently identifiable through separate entrances, display
of Boards and other means.
14.
The banks/DFIs shall ensure that all the sale or support
services performed by them or premises provided by them
to the subsidiaries are on arms length and on commercial
basis and appropriate fees are charged for these services.
The bank/DFI will ensure that it is not assuming any sort
of legal liability on behalf of its subsidiaries and its
products. For this purpose, besides taking other necessary
measures, the bank/DFI will also obtain professional legal
opinion.
15.
The bank/DFI will not provide any non-fund based facility
to the subsidiary. However, fund based facilities and margin
financing may be provided by the bank/DFI to its subsidiaries
under the relevant regulations of SBP and subject to the
observance of Per Party Exposure Limit for fund-based exposure
under Prudential Regulation R-1.
16. In case, it is found during the inspection or through
other sources that the relationship (parent & subsidiary)
has been used to structure a transaction or transactions
to defeat the purposes of SBP regulations or banking laws,
State Bank of Pakistan may, at its own discretion, direct
the delinquent bank/DFI to dispose off / transfer its equity
holding in the subsidiary within such time and in such manner
as prescribed by State Bank and may also make a simultaneous
request to SECP for the cancellation of the license of the
subsidiary. This measure shall be without prejudice to any
other action, which State Bank may take in this respect.
17.
State Bank of Pakistan will closely monitor the situation
on a continuous basis and if needed, the regulations may
be modified from time to time.
Please
acknowledge receipt.