Regulatory, capital market reforms needed to revive Singapore’s stock market
Fundamental reforms to Singapore’s capital markets, pension system and how regulators interact with it are essential to revive our public equity market. A lack of reforms will inhibit its ability to compete with international and regional peers, eroding its status as a financial centre and seeing continued illiquidity in its equity market.
Singapore’s capital markets have established robust franchises in debt capital markets derivatives and business trusts, primarily with real estate investment trusts (REITs), coupled with being a wealth management hub. But its equity markets remain somewhat dysfunctional, relative to international best practices.
Since the 2013 penny stock crash, its equity franchise and the general stock market has been plagued by illiquidity and a wave of privatisation deals. This is a global phenomenon in the stock markets of mature economies, which have seen listings on the New York Stock Exchange (NYSE) more than halved over the past 20 years, while public listings in the bourses of Frankfurt and London fell 45 per cent and 20 per cent respectively between 2003 and 2018. This is rooted in competition with private capital markets worldwide.
The moribund state of its equity market devalues its imprimatur as a financial hub and commercial centre. To rejuvenate them, systemic reforms are required to bind various elements and agencies of our capital markets ecosystem together and streamline the capital formation process. Such reforms can also reinforce our fund management sector.
Financial hubs like New York, London, Tokyo and Sydney maintain vibrant, highly liquid capital markets, underwritten by support from domestic pension funds and institutional investors both domestic and foreign. Coupled with robust safeguards for minority shareholders, strong financial media ecologies and a sprawling community of equity analysts, these have seen sustained growth.
Pension system reforms
Appraising the bourses of financial centres like Hong Kong, Sydney, Tokyo, Bangkok and New York highlight the crucial role of pension funds in supporting healthy domestic investor liquidity, as well as their crucial role in their capital markets.
For instance, Tokyo’s market liquidity is underwritten both by the Japanese pension fund system and the Bank of Japan (BOJ) purchasing beneficial interests in index-linked exchange-traded funds (ETFs) and mutual funds. This was highlighted in an opinion piece, “MAS can give a much-needed boost to Singapore equity markets”.
Singapore’s traditional rival Hong Kong can leverage an ascendant Greater China market, pension assets of the Mandatory Provident Fund (MPF), and stock market links with the bourses of Shenzhen and Shanghai, as well as a retail investor pool estimated to range from 130 million to 200 million people. Meanwhile, Sydney’s equity market enjoys similar support via its superannuation fund regime, with pension assets estimated at A$2.5 trillion in 2018. One report suggests that Australia’s pension funds will own more than half the share market by 2030.
“The role of pension funds in capital market development,” a discussion paper published in 2010 by Meng, Channarith, and Pfau for the National Graduate Institute for Policy Studies in Japan, illustrated that pension fund financial assets have positive impacts on the stock market depth and liquidity. They also enhance private bond market depth for countries with high levels of financial development, reinforcing the case for pension fund involvement in equity markets. [Meng, Channarith, and Wade Donald Pfau. “The role of pension funds in capital market development.” National Graduate Institute for Policy Studies 10.17 (2010): 1–21.]
Singapore’s Central Provident Fund (CPF) is structured to hold its retail wealth of S$391.1 billion (US$287.32 billion) as at end-2018 in a static state. Most Singaporean household wealth is invested in illiquid property assets. Incorporating elements of Australia’s superannuation regime and Hong Kong’s MPF — in the form of granting options to deploy their money to asset managers that manage these via trust structures — can free up investment capital, lifting the cyclically adjusted price-to-earnings (CAPE) ratio.
With incentives to be weighted to the local market, it can also provide a boost to local asset managers, while also driving the creation of a virtuous cycle of liquidity and spurring greater returns for the investment public. Additionally, monthly CPF deduction amounting to 37% for those up to 55 years of age can be simplified to a flat 10% for employers and 10% for employees for an aggregate of 20%, rather than the current 37%. CPF deductions amount to a form of high indirect tax, especially given Singapore’s rising living costs.
Singapore’s stock market can support robust equity growth; from 2009 to 2018 the compound annual inflation rate of Singapore was 1.76%. That same period saw the Straits Times Index (STI) post annualised compound returns — accounting for dividend reinvestment and capital growth — of 9.2%. Without reinvesting dividends, this yielded annualised returns of 5.7%.
For comparison, in the UK inflation averaged 3.1% per annum from 2009 to 2018, with the FTSE 100 Index, representing the top 100 companies on the London Stock Exchange (LSE) by market capitalisation, yielded compound returns of 8.3% for the same period, with annualised returns of 4.3%.
In Singapore, stocks and securities account for 9.6% of household assets according to government data. For comparison, Wharton Business School estimates that this is 10%-15% in emerging markets and 25%-30% in mature economies. Enabling greater access to the stock market for its pension system can drive greater investment returns and lift the market.
Tax relief & incentives
Pension reforms can be coupled with incentives in the form of tax relief and tax refunds centred on individual investors, as well as tax relief in the form of deductions to the corporate income tax (CIT) for public firms.
In 2012, Sweden introduced the Swedish investment savings account (Investeringssparkonto, ISK) for individual investors. There is no maximum amount which an investor may contribute to an ISK account and can freely move funds. Funds in the ISK account may be invested in cash (including foreign currency), financial instruments which are traded on a regulated market, or financial instruments traded on a multilateral trading facility.
Swedens’ capital gains tax has been replaced by an annual standardised tax, while capital losses can be offset in tax returns against standardised income in the account. Assets stored and/or deposited in this account are subject to the provisions of a corresponding deposit guarantee. This guarantee reimburses capital and accrued interest up to a maximum amount equivalent to EUR 100,000 per person and per institution.
The adoption of this model, from 2014 to 2016, correlated with the number of IPOs in Sweden almost doubling. Two-thirds of the new companies listing on the Nasdaq First North market, the growth board of the Nasdaq OMX, which is comparable to the Alternative Investment Market (AIM) of the London Stock Exchange (LSE).
In Singapore’s case, emulating a similar model as an option for the CPF could also have an effect. Besides offering retail investors greater liquidity, allocations to a portfolio of Singapore equities can be linked to tax relief or deductions on gross income tax, while capital losses can be offset against returns. Beyond freeing up a portion of CPF wealth, it can potentially reinforce local asset managers whose funds could be included in such a scheme.
The Stock Exchange of Thailand (SET), currently the most liquid exchange in Southeast Asia, has taken measures to induce companies to list, as well as build and sustain retail investor participation, underwritten by government support.
Two programs, the Long-Term Equity Funds (LTFs) and Retirement Mutual Funds (RMFs), encourage longer-term investing in the Thai equity market. RMFs, in particular, encourage people to save for retirement by providing tax benefits on savings, while both provide current-year Thai tax deductions on contributions. Moreover, subject to meeting LTF and RMF fund requirements, funds can be withdrawn tax-free. Managed by asset management companies, they can be accessed directly or through affiliated bank branch networks.
Bangkok-listed companies also face lower CIT rates. Specifically, a tax rate of 25% applies to SET-listed firms, as opposed to the normal rate of 30%. Additionally, Thailand provides in an investment tax credit up to 25% of the total qualifying cost of new projects of listed companies (machinery, vehicles, equipment and software).
In, with CIT at 17%, listed firms could enjoy a perennial rate of 13% and an investment tax credit of 20% reach some parity with Thailand. Alternatively, to induce private enterprises, on the basis of economic cycles averaging 5.5 years in the US, or the 7-year ‘Joseph Cycle’ which impacts Singapore’s market — propounded by Simon Sim, formerly the Head of Technical Analysis for UBS — companies listing on the Catalist growth board could be subject to a 7% CIT for the first 7 years of a listing while Mainboard firms are subject to a 10% CIT, followed by a 14% perennial tax.
Meanwhile, to induce secondary listings of foreign blue chips, CITs for these can be calibrated to 10%, while also coupled with a 20% investment tax credit. This can be targeted at international corporations with primary listings elsewhere looking to tap Asia’s capital markets via a secondary listing in Singapore.
In the early 2000s, the Tokyo Stock Exchange (TSE) was home to a number of secondary listings by US multinational corporations. Featuring blue chip stocks like IBM JPMorgan Chase, Dow Chemical and Boeing. Through the 2000s, these firms delisted their shares from the Tokyo bourse. Since then, the Tokyo bourse has been seeking to revive its foreign listings.
This leaves a gap Singapore can choose to fill, given the growing economic weight of the Asia Pacific as a whole. Its geographic centrality — relative to the likes of China, India, Russia, Japan and Indonesia — enable it to function as a regional common & control platform for a number of major markets.
Additionally, its role as an offshore financial centre means it can explore leveraging this to enhance its capital markets, as secondary listings have the potential to improve valuations via listings on “a more (or less) prestigious stock exchange relative to its own domestic market”.
This serves to enhance firm visibility, strengthen corporate governance, as well as reduce informational frictions and capital costs. [Cetorelli, Nicola, and Stavros Peristiani. “Firm value and cross-listings: The impact of stock market prestige.” Journal of Risk and Financial Management 8.1 (2015): 150–180.]
Another major appeal of Singapore to foreign firms is the potential to lower their tax rate to zero per cent, highlighted in Dyson relocating its corporate headquarters to Singapore. With corporate tax at 17% — the UK will match this from 2020, down from 19% at present — it also offers a combination of incentive schemes, which include an international headquarters award. This can bring the corporate tax to zero.
With the move of Dysons’ corporate headquarters to Singapore, announced in early 2019, as well as being host to the APAC headquarters of Google, Microsoft, Facebook, Hewlett-Packard Enterprise (HPE) and a host of other multinationals, Singapore can potentially fill this void.
A government agency, the Economic Development Board, already offers a host of incentives to induce companies to site themselves in the city-state. It offers companies tax exemptions or concessionary tax rates of 5% or 10% for up to five years, with the possibility of extension, so this can be coupled with incentives for secondary listings.
The Singapore bourse already permits the secondary listing of companies with dual-class share structures, with the potential for a secondary listing on the Singapore Exchange (SGX) to enhance an issuer’s public image in the Asian region.
Moreover, double listing improves liquidity in the trading of its securities, especially if there is limited liquidity in the domestic market where the issuer is primarily listed; more efficient share prices arising from trading in an additional market and additional funds from tapping capital markets to fund business growth and expansion; as well as other strategic considerations, given its status as a commercial centre and wealth management hub.
“State capacity, minority shareholder protections, and stock market development,” by Guillén and Capron, published in the Administrative Science Quarterly in 2016, highlight the vital role of state capacity impacts stock market development, particularly in the dividends reaped from protecting minority shareholders. [Guillén, Mauro F., and Laurence Capron. “State capacity, minority shareholder protections, and stock market development.” Administrative Science Quarterly 61.1 (2016): 125–160.]
For instance, the UK and US stock markets have maintained long-standing legal provisions in place to protect the rights of minority shareholders against the actions and decisions of large shareholders and management. This has led to inflows from across the world and their continued role as international finance centres, notwithstanding the ‘exorbitant privilege’ they enjoy due to their currencies being international reserve currencies.
Singapore requires an approach that creates “economies of ecosystems” amongst its regulator, the Monetary Authority of Singapore (MAS), as well as the various government agencies and private sector bodies. This will serve to link and leverage the various initiatives that cover the breadth of the capital formation process and ecosystem builders together.
For instance, policy bridges connecting its immigration agency, the Immigration & Checkpoints Authority (ICA) with its investment promotion agency, the Economic Development Board (EDB), and enterprise development agency, Enterprise Singapore (ESG), can augment its efforts to develop itself as an enterprise and entrepreneurial hub.
This is the same strategic approach that Chinese Internet majors such as the Alibaba Group and Tencent Holdings have adopted. By maintaining minority stakes in many entities and connecting them together, Tencent and Alibaba have grown their revenues and synergies, building a network of properties that feed off each other, and something worth replicating in a public sector context.
There is also a need for greater engagement and communication with capital market practitioners. In the case of a local realty firm called Propnex, which commenced trading in July 2018, Singapore’s government “stunned the entire property market with a new round of property cooling measures” which saw the shares of property firms decline. Given the impact on the investment public, there is a need for a shift in how regulators engage capital market stakeholders.
Given the clear role that news media has in stock market gyrations, financial news media and financial blogs — which function in an infomediary role in capital markets — offer a clear channel for engaging with retail investors and the broader investing public. Markets react to financial blogs and similar online venues.
For instance, some research findings indicate that abnormal returns can be associated with the SeekingAlpha.com financial blog when information asymmetry is high and during bearish market conditions. This relationship holds particularly true for firms with low institutional ownership, a proxy for unsophisticated or retail investors. [ Rickett, Laura K. “Do financial blogs serve an infomediary role in capital markets?.” American Journal of Business 31.1 (2016): 17–40.
A third part is permitting its bourse, Singapore Exchange (SGX), and its regulatory unit, SGX Regco, greater regulatory latitude. Singapore’s financial regulator, the MAS, can be somewhat conservative in relation to capital market products and services in public markets.
What could benefit its capital markets is a centralised capital markets regulatory commission that brings together legal specialists, regulators and market practitioners — the MAS, SGX, SGX Regco and Law Society of Singapore — could enable more practitioner-oriented regulation and permit greater regulatory latitude for market operators.
Emulating the Innovation Corps (I-Corp) model of the US National Science Foundation that governs federal agencies — ideas that pass through a prioritisation filter enter a six- to ten-week incubation process that can deliver evidence for defensible, data-based decisions — this can see each innovation team filling out a business model.
Adopting such a framework engages not only potential customers but also regulators and specialists responsible for legal, policy, finance and support. Such a process requires that teams think through compatibility, scalability and deployment prior to engineering and development.
By permitting access to such a product in the first year to accredited and institutional investors in the public market while managed by the SGX and SGX Regco, enabling it to be tested, followed by a rollout in the second year to retail investors — at which point MAS and the Law Society of Singapore can appraise it — the city-state can be more responsive to market shifts and technological developments impacting contemporary capital markets worldwide
For instance, leveraging the strength of its business trust franchise — according to research by Deloitte Singapore, these delivered an average yield of 6.4% in 2017,outperforming the benchmark Straits Times Index’s 3.7% and posting average yields of 6.7% for trusts from 2013 to 2017 — it can explore replicating the listed investment trust (LIT) structure present in Australia’s stock market.
LITs are listed managed funds on Australia’s stock market that provide exposure to a basket of underlying shares and exposure to other asset classes, such as international shares, real estate, shipping, private equity or specialist funds focuses on specific sectoral themes. Comparable to listed business trusts in Singapore’s equity market, they pay out surplus income to investors via distributions.
This exposure to an array of asset classes can lead to significant differentiation in investment techniques and operational characteristics. Meanwhile, being closed-ended, LIT structures can offer investment managers a better chance of performing well in dysfunctional and falling markets. With closed-ended structures providing a fixed amount of capital to investment managers, they can invest when markets are distressed, without concern about potential redemptions from investors.
In contrast, open-ended vehicles like exchange-traded funds (ETFs) can see the corpus of funds contract as investors redeem or sell their investments. From the perspective of the investment manager and long-term investors, this can happen at inopportune times and see investment managers forced to sell off assets in their portfolio into distressed markets at significant discounts, as part of facilitating liquidity for investors seeking to redeem their investment when markets are dysfunctional.
Capitalising on the liquidity of its business trust platform, which has driven the development of its real estate investment (REIT) cluster, state investment funds such as Temasek Holdings can potentially enter the market with LITs as an investment instrument to enhance Singapore’s capital markets.
As an example, Temasek-linked Keppel Group operates an asset management unit, Keppel Capital, which generally underwrites up to 10% of funds it launches. Acting as the general partner (GP), Keppel Capital also raises funds capital from limited partners (LPs) such as foreign institutional investors (FIIs), domestic institutional funds and other capital allocators.
Given that GIC is prohibited from investing into Singapore’s equity markets via government mandates, Temasek can explore launching the launch of LITs, where it backs 10% of the fund corpus and FIIs, while also funds via a 20% public float. These can target the indexes available in the FTSE ST Index Series, with indices such as the FTSE ST Large & Mid Cap Index FTSE ST Mid Cap Index, FTSE ST Small Cap Index offering broad exposure to the overall market.
These actively managed funds can facilitate public exposure to private equity (PE), as in the case of the Astrea Private Equity Bonds issued by Azalea Asset Management, an affiliate of Temasek Holdings. These bonds are backed by cash flows from a diverse portfolio of PE funds. This offers yields with relatively low risk, and offer a degree of liquidity via their listing on public markets.
Capital markets wrapup
Singapore needs regulatory and pension system reforms to revive its equity franchise and the stock market as a whole. Since 2013, its equity market has been criticised as a shrinking capital market plagued by criticisms of low valuations and poor trading liquidity.
Stock exchanges are a reflection of a nations’ economy and growth prospects, serving to mobilise resources and contributing to broad and sustainable economic development. Additionally, they facilitate access to financing for enterprises and entrepreneurs, as well as promoting employment growth.
Publicly-traded companies drive employment growth, as in going public they often increase employment by 45 per cent relative to private companies, according to research by the US Securities & Exchange Commission. Such activity is vital to sustaining and broad economic growth, as well as greater income equality. Moreover, they generate new revenue for the economy and expand the tax base through their business operations.
An opinion piece, “Towards asset-based welfare policies”, published on 3 May 2019, illustrates how boosting equities ownership could yield social benefits and are the best way to stay ahead of inflation; historically, owners of equities earned a higher return on their savings than those with savings in bank deposits and similar low-risk financial products.
Singapore’s equity market has reached an inflexion point, with a need for public sector funds and regulators to catalyse a shift in the current negative cycle. While the SGX has arguably been making the changes needed to remain relevant, the capital markets ecosystem needs to involve it in the capital formation process. Boosting our equity market will also reinforce our fund management sector and the financial services value chain.
Unless reforms are implemented, we risk following the US in creating a two-tiered capital markets structure, where “…the majority of the appreciation accrues to those institutions and wealthy individuals who can invest in the private markets and a second for the vast majority of individual Americans who comprise the retail investor base in the public markets,” according to testimony by Scott Kupor, the managing partner at US asset manager Andreessen Horowitz.
The case of Microsoft and Amazon highlights the shifting of wealth from public markets to private investors. Microsoft went public in March 1986 with a market cap of U$350 million; today it’s valued at US$1 trillion. Thus a public holding of Microsoft from IPO has had the opportunity to enjoy a return of more than 1,365X on the original investment.
Meanwhile, Amazon went public in May 1997 with an initial public market cap of approximately $440 million and is today valued around US$950 billion, with returns of in excess of 1,100x in the public markets. In contrast, Facebook debuted in public markets on May 2012 at around a $100 billion market cap, with a current value of in excess of US$550 billion. The returns to public market investors are about 5.1X.
Similar to the US, non-accredited Singaporean investors enjoy some access to private markets via the investments in specific mutual funds that they can access in Singapore. But this exposure is limited and largely translates to a lack of access to the wealth creation of private markets. Enabling the investment public here to deploy their CPF saving into a more liquid form can serve to mitigate further income disparity, as well as boost our financial services sector and fund management space.
.Singapore has emerged as an Asian hub that funnels and filters global capital flows. However, its long-term success as a financial centre is at risk if we continue to neglect our public equity markets, with negative impacts on our capital markets and income disparity in our society.
At a foundational level, interventions are needed to recalibrate our equity market and securities industry in order to remain relevant and revive its equities franchise as a leading Asian stock exchange.