1. Lessons from emerging markets: how applicable is the regulatory framework for emerging debt markets Washington, June 2nd 2003 Clemente Del Valle Chairman Securities Commission, Colombia

2. Lessons from developed markets Colombian debt market: ongoing reforms AGENDA Colombian debt market experience: an illustrative case of its achievements and mistakes Final remarks

3. Derivative market Money market Government bond market Private sector bond market Well-developed capital markets provide benefits for the entire economy… Provides liquidity Supports the building of the short-term yield curve Reduces the cost of GS Provides short-term bonds and standardized issues for the money market Provides the market benchmark yield curve Supports the development of capital markets infrastructure Expands investors’ options Leads to a more balanced domestic financial architecture Better financial management practices Leads to low interest rates …and are an essential tool for growth

4. Level of development of the financial sector Basic legal framework and infrastructure IssuerInvestor Intermediaries Macroeconomic policy Money market Primary market Secondary market SOURCE: Developing Government Bond Markets Handbook, World Bank – IMF, 2.001

5. Fair, efficient and transparent market Objectives of regulatory framework Principles of the legal framework Minimization of systemic risk Protection for investors and consumers of financial services Prevent improper market conduct (market manipulation & insider trading) Intermediaries with minimum capital requirements Internal control procedures Transparent information disclosure Reliable systems for settlement of cash and securities transactions “Fit and proper” rules for management in securities firms

6. A well-developed debt market implies: High levels of professional standards, self-discipline, ethics and size of the intermediaries ( a “professional market”) A well functioning money-markets Good enforcement capacity of the legal and regulatory framework (e.g. ordinary justice, SEC capacity) And /or effective self-regulatory schemes However a major hurdle in many emerging markets going forward is that those pre-requisites have not been properly assess or have been taken for granted

7. Macroeconomic Stability Financial Stability Bankruptcy Law Debt Policy Debt strategy Market oriented funding strategy Auction procedures Transparency Gov. Bond standardization Short-term yield curve Money Markets (repos market) Competition Infrastructure and Regulation Debt Policy Strength government debt teams Use of primary dealers Risk management Extend bonds maturities Infrastructure and Regulation upgrade Secondary Gov. Bond market liquidity Secondary intermediaries Credit Rating System Disclosure System Expand Investor base TIME Measures in the short and medium term

8. Lessons from the developed markets Colombian debt market: ongoing reforms AGENDA Colombian debt market experience: an illustrative case of its achievements and mistakes Final remarks

9. SOURCE: Ministry of Finance. The domestic sovereign debt has experienced a major development in the last decade…

10. …It has deepened the capital market SOURCE: Ministry of Finance.

11. Most of the fixed income securities are dematerialized Evolution of securities under custody and and dematerialized securities - DECEVAL Billions of dollars SOURCE: DECEVAL.

12. Daily Average 1997 - 2003 Millions of dollars Source: BVC and Banco de la República Private Debt Public Debt Main electronic transactional systems have deepened the market Millions of dollars SEN Daily Average 1998 - 2002 MEC

13. Developing the secondary market SOURCE: Superintendence of Securities.

14. However, showing a high concentration of TES … Stock Market The TES market has increased its participation in the stock market from 6% in 1.993 to 40% as of December 2.002. TES TES

15. Debt portfolio profile has been extended Duration Average Term SOURCE: Ministry of Finance The strategy used has improved the portfolio structure, increasing duration conditions, and average term. TES PORTFOLIO PROFILE

16. Likewise the yield-curve has been extended SOURCE: Ministry of Finance, April 2003

17. Fondos Comunes Ordinarios, Fondos de Pensiones y Cesantías, Fondos de Valores, Compañías de Seguros y Patrimonio Autónomo ECOPETROL In the same way, Institutional Investors have grown SOURCE: Superintendence of Securities and Superintendence of Banks

18. Investor Base Structure 2.002 SOURCE: Ministry of Finance

19. SOURCE: Superintendence of Securities and Superintendence of Banks The size of securities market has consistently increased during the last years…

20. PROPRIETARY TRADING INCOME STRUCTURE (CREDIT ENTITIES) Likewise, development of proprietary trading in banks has brought increased sophistication of the market PROPRIETARY TRADING COMMISSION As well as in the brokerage firms… SOURCE: Asobancaria and Superintendence of Securities

21. Industry standards: Low professional standards of the market intermediaries Absence of market integrity ­ ­ Improper use of securities and public resources ­ ­ Distortion of the financial operations and statements ­ ­ Absence of proper Chinese-walls Shortage of capital adequacy and proprietary trading rules Inadequate risk management skills (prudential issues) Nevertheless, some problems have put the market in a risky situation in recent years ………

22. Deficient supervisory capacity Imbalance between supervision and regulatory capability Weak enforcement and surveillance More focus on equity markets and brokerage activity (instead of fixed income market) Scarce budgetary autonomy Lack of a self-regulation scheme: A Weak SRO system in place ( stock exchange) There is not enough independence between the SRO role and the commercial and association roles Weak oversight capacity of the supervisor Nevertheless, some problems have put the market in a risky situation

23. Limited development of the money markets: Unclear legal definition of the Repo contract: guarantee loan or temporary buy-sell back guarantees Regulatory arbitrage given lack of coordination between Superintendence of Banks and SEC (terms, discount, operation limits) Unsecure and inefficient settlement system for securities lending and repos (not assume counterparty risk) Inappropriate haircuts and margin calls Inadequate transparency for creditors Nevertheless, some problems have put the market in a risky situation

24. Price formation distortions (Mark to market): Regulatory arbitrage. Two different regimes between Superintendence of banks and the SEC Inflexible accounting structure impedes an update to international standards Numerous mark to market methodologies that do not reflect market conditions Absence of a pricing system Mark to market methodology completely outdated with respect to the international trend Nevertheless, some problems have put the market in a risky situation

25. Lessons from the developed markets Colombian debt market: ongoing reforms AGENDA Final remarks Colombian debt market experience: an illustrative case of its achievements and mistakes

26. Mark-to-market valuation SV and SB already issued identical rules to value securities (to avoid regulatory arbitrage) - September 2002 SV has approved the methodology developed by BVC to act as a price vendor for TES - January 2003 Development of a methodology to provide market prices needed to apply the valuation rules Establishment of a private sector advisory committee - May 2003 Proprietary position Rules of capital adequacy have been issued with industries’ approval (March 2003 - August 2003) Standard ratio of capital to weighted risk assets and market risk Based on IOSCO principles and the new Basel Capital Accord Priority given to issuance of prudent regulation

27. Coordination with State entitites: Ministry of Finance, Central Bank, Superintendence of Banks and Superintendence of Securities to align regulation with respect to: Limits Participating agents Collateral Risk factors Work orientated towards development of Repos market, as base for other markets.... And to develop the money- market

28. Identify the risky areas within the industry activities Establish the standards for the participants that would diminish those risks (e.g. brokers, dealers, clearinghouses, rating agencies, advisors) Discourage and sanction improper trading and practices Separate treatment and management of intermediary and client assets Brokers, asset managers and advisors must acquire licenses to operate ( professional exams) Increase the professionalism standards of the industry

29. Strengthen the governance of BVC Clear mandate for the independent directors Auditing committee Detach self-regulation arm from BVC administration Diversify the composition of the independent members Spin off their association activity Governance of the Colombian Stock Exchange - BVC

30. Securities Law Adoption of IOSCO principles Regulation based on “activities” and not on “entities” Adoption of standards applicable to the market participants Adoption of new sanctioning procedures Strengthening of the supervision capability introducing international accounting standards and improving oversight of the auditing industry Modernize the regulatory framework

31. Internal function specialization. Reassignment of functions such as surveillance, enforcement and authorizations. Creation of the Collective Investment Schemes division Reducing red tape. Avoiding duplicity. Abolishing some previous authorizations. Developing an automated system for the surveillance function Strengthening the oversight capacity over the BVC. Strengthening of the Superintendence of Securities (SV)

32. Lessons from the developed markets Colombian debt market: ongoing reforms AGENDA Final remarks Colombian debt market experience: an illustrative case of its achievements and mistakes

33. Primary emphasis should be focused on a sound legal and regulatory framework to develop an adequate debt market Building that framework and a professional market takes time and requires a strong commitment of the industry and the regulator The Ministries of Finance as issuers should involve early in the process the securities regulatory agency Regulatory agencies should reassess the relative priority in terms of supervision (equity market vs. debt market), given the reality of their market. The regulatory framework should take into account the enforcement capability of the supervisor There is a need to strengthen the SRO scheme given the lack of resources of the supervisor (administrative restrictions and budgetary capability). Final remarks

34. Lessons from emerging markets: how applicable is the regulatory framework for emerging debt markets Washington, June 2nd 2003 Clemente Del Valle Chairman Securities Commission, Colombia