securities markets legal indicator survey 2007

2007 Legal indicator survey on securities markets legislation

To complement its assessment of securities market legislation, the EBRD launched the 2007 Legal Indicator Survey (LIS 2007).

The aim of the survey was to assess how the legislation, together with the local institutional framework in each country, works to create a functional securities markets legal regime.

The case study methodology

The methodology employed in the LIS 2007 followed on from previous surveys. Accordingly, it involved working with leading law firms   in the region.

These law firms were provided with a case study involving a securities market legislation scenario and an extensive questionnaire  .

The scenario took the perspective of an investor facing substantial losses, after having purchased some shares in a well-known company, on the basis of wrong information included in that company’s prospectus. In this scenario the investor is considering starting a legal action in order to obtain some form of redress through a private action in court or otherwise.

The questionnaire was designed to establish how effective each country’s legal system is in protecting investors’ interests. Law firms were asked to respond to the questionnaire as if they were advising the client on how best to protect its rights and preserve the value of its financial investment.

The questionnaire focused on four main areas:

• Prospectus disclosure requirements: how well the principles of disclosure are implemented and the level of transparency. It reflects the breadth and reliability of a prospectus and covers in particular the degree of disclosure, risk identification, quality of financial reporting, institutional oversight and distribution practices.
• Private enforcement mechanisms: this indicator establishes whether an investor can reasonably expect to recover damages through court action. The factors taken into account are the range of legal actions, assessing the best avenue possible; liability standards and burden of proof, recovery chances; and the speed, costs and quality of the institutions that administer the private legal action.
• Public enforcement mechanisms: this category analyses the capacity and experience of the relevant institutions when pursuing administrative and criminal actions for more serious breaches of laws or rules of conduct, when the initiative of the plaintiff is not required. It considers the effectiveness of actions by the regulator and the prosecutor, their capacity, the liability criteria and the applicable sanctions.
• Market regulator: the LIS 2007 assigns a grade to the securities market regulator, based on its resources, independence, impartiality and finally its rule-making, investigative and sanctioning powers.

Scoring methodology of the survey

A number of questions in the questionnaire provided multiple-choice responses. Each question was individually scored on a range of 1 to 10 (one representing the lowest and 10 the highest score). It reflected a 10-point progression from a clear 'yes' to a clear 'no' (or from 'extremely low' to 'very high').

In addition, narrative text responses, regarding most areas of inquiry, assisted in obtaining further information hypothetically within each. The text responses also had an impact on the scoring of related questions, for instance, by reinforcing other answers or indicating contradictions. Narrative explanations were not scored individually but were taken into consideration for the fine-tuning of the results.

Scope and dimension of case studies

The scope and dimension of the survey was limited by the subject matter and therefore the findings of the survey must be treated with caution. First, they reflect the views of a limited number of practitioners within each country. Second, they address a very specific set of circumstances and must be considered within the boundaries of the case studies. Third, assessing effectiveness by necessity is far more difficult and subjective, than finding out what the laws on the books state in a given country, as it deals with variables that are difficult to measure, such as courts’ competence, simplicity of procedures, ease of enforcement and so on.

Securities markets legislation differs widely in design and substance. While it may be possible to test the entirety of a securities market regime (if only one such regime were being tested), to examine a number of regimes in a single exercise, requires the consideration of many variables and alternative possibilities that arise from those differences in legislation. The results of any such testing would produce an incoherent final product. In addition, any attempt to consider a large number of variables requires them to be “weighted” (allocating particular areas a greater scoring potential than others, based on perceptions of relative importance). The exercise of weighting, however, is subjective and if a survey extends into too many areas, the temptation and opportunity to weight results, and thereby distort them, increases.

Accordingly, it was decided the study should focus on some of the most critical issues in securities market legislation: the possibility for an investor to effectively obtain compensation for losses which occurred due to a mistake in the prospectus documentation. The broad purpose of this methodology is to test whether, and the extent to which, the law may be effectively applied in practice. More particularly, that test should embrace critical factors involved in that usage, such as time, cost, barriers to efficient application, the adequacy of the institutional capacity (courts, prosecutors, market regulators), and general effectiveness.

Results of the survey

The essential results are presented in various graphic forms to illustrate both the performance of each country separately and an overall comparative view, as follows:

• the degree of effectiveness scored by each country   in each of the areas under consideration (disclosure, private and public enforcement mechanisms, market regulator);
• a comprehensive country-by-country analysis of the various component of the disclosure practices   presented in graphic form;
• a comprehensive country-by-country analysis of the various component of the private and public enforcement mechanisms   presented in graphic form;
• a comprehensive country-by-country analysis of the various component of the market regulator   presented in graphic form.

For additional information, please contact the EBRD’s securities market specialist, Gian Piero Cigna, at cignag@ebrd.com.