Securities Market: In Search of Security

You call up your broker. You order a trade. Now you can sit back and relax. Shares change hands, payments are made, bookkeeping is updated without your lifting a finger -- and no one can tamper with the records that say what stock you own.


This is not the way things work on the Russian securities market, where investors tangle with red tape at best and at worst risk losing their shares because of shaky ownership guarantees.


But a growing number of firms and organizations are trying to change that. They hope to bring a measure of convenience and safety to Russia's stock market by importing some of the institutions that keep the world's developed markets running smoothly.


In the works are:


?a network of independent registrars to maintain shareholders' lists;


?custodial services, in which an investor turns over nominee ownership and maintenance of shares to a bank or broker;


?a depository, clearance and settlement company, which would centralize under one roof nominee ownership, trading and bookkeeping for clients of participant banks and brokers.


Analysts say such infrastructure is desperately needed to attract investors daunted by the current system and set the stage for a boom in the Russian stock market. "It is as close to impossible as it could be to invest in Russia," said Diana Downing, a lawyer at Milbank, Tweed, Hadley & McCloy.


To buy shares in a Russian firm today, investors must first hunt down brokers who have the shares they want, then travel or send a representative to the registrar, be it in Moscow or Vladivostok, to enter their names on the shareholders' list. The register is the only legal record of ownership and is often maintained by a "pocket registrar" subordinate to company directors. What is drudgery for most investors recently became a financial nightmare for Transworld, a British metal-trading firm, which lost nearly all of its 20 percent stake in a Siberian aluminum plant when factory directors erased it from their in-house register. State Property Committee officials have said that Transworld's stake will be restored.


Consultants say the Transworld incident threw into sharp relief the need for independent registrars and showed that without them, custodians will be helpless to take financial responsibility for clients' shares as they do in the West.


"When you think of who really has control of custody here -- it's the registrars," said Jim Reichbach, a partner at Deloitte & Touche. "They're the key."


Deloitte & Touche is working with the U.S. Agency for International Development to set up a large independent registrar, a commercial Russian-foreign joint venture that would serve as "a model" for other registrars, Reichbach said. The Russian government is setting up several such registrars, State Property Committee chairman Dmitry Vasilyev said last week.


"If you want to encourage investment, people must have the confidence that the shareholders' register will correctly reflect what they own," said Dan Hill, who directs a USAID-funded trade association for registrars designed to foster industry self-regulation.


The 120 members of the Professional Association of Registrars, Transit Agents and Depositories will soon adopt a set of industry standards pledging to "maintain shareholders' registers with accuracy and integrity" and update registers "promptly" after trades go through, Hill said.


The next step is to convince companies to use them.


"Just now the registrars have to look for clients and fight for clients," said Sergei Podkolzin, deputy director of the association. Many company directors, he said, "don't want to pay money, or they want to have control over the register."


Firms with over 1,000 shareholders are required to use independent registrars. But analysts say it is often those very firms -- the former giants of Soviet industry -- whose directors, weaned on central planning, see a firm grip on the register as a way to avoid ceding control to new shareholders.


Still, Reichbach said, some large firms have already expressed interest in the planned joint-venture registrar. LUKoil -- one of seven leading industrial firms and investment funds that recently signed an accord to guarantee shareholders' rights -- is considering switching from its current in-house registrar, he said.


Others say self-regulated private registrars are not the answer and call for a centralized government-sanctioned registry, like those in Venezuela and Malaysia.


"This is an issue of property rights of shareholders," said Miljenko Horvat, president of Citibank's Moscow division. "Nobody would ever dream of putting the land registry -- where land sales are recorded -- in the hands of the guys who sell the land."


Horvat said a state-sanctioned registry would have the power to guarantee property rights and would quickly lure both issuers and investors away from private registrars.


Improved registrars can only solve part of the problem, though, and some Western banks are betting that investors would be eager to pay to unload the headaches of share ownership onto a custodian. Institutions planning to offer custodial services include Chase Manhattan, Citibank, CS First Boston and ING Bank.


On Feb. 1, Chase Manhattan will kick off services that include holding title to shares, proxy voting and traveling to all corners of Russia to check registers, said Yvonne Rogers at the bank's Moscow office.


But Chase will not take on financial responsibility for its clients' shares, as custodians do in other countries, partly because the bank cannot ensure day-to-day that the register is not being tampered with by an inept or corrupt registrar, Rogers said.


"That is different from what we do in other countries," she said, blaming an atmosphere in which "legislation, if it's not ignored, is blatantly perverted."


Citibank this month began offering a safekeeping service for dollar-denominated "taiga bonds," which the Finance Ministry bonds issued last year to pay debts of Vneshekonombank, the former Soviet foreign trade bank. Clients worldwide can now place taiga bonds in Citibank's care by calling their usual brokers, Horvat said.


The bonds will be deposited in the government-owned Vneshtorgbank, where Citibank is "confident" they will be safe, Horvat said.


Taiga bonds are somewhat easier to handle because they are bearer bonds and bypass the registry problem, he said, but Citibank is also trying to figure out how to safeguard registered securities.


Perhaps the most ambitious current project is the Depository Clearing Company, a Moscow version of New York's Depository Trust Company.


This umbrella institution, founded in November 1993, would "immobilize" securities so that investors would not have to travel to re-register them and allow member brokers to trade nominee-based shares with a touch of the computer keyboard, said David Hornby of Deloitte & Touche, an adviser on the project along with KPMG Peat Marwick.


Shareholders would entrust their shares to the DCC as nominee owner. If another DCC client then bought those shares, the DCC would remain the nominee owner, simply transferring the shares to the new owner's account.


"Multiply that by thousands of trades a day and suddenly it becomes very cheap," Hornby said.


Today, by contrast, both parties to the trade, or their representatives, must show up in person at the registrar with a contract. The DCC now offers re-registration -- it flies anywhere to take care of the process -- but Hornby says that is one service it hopes will wither away.