Corbis

Position Paper
Manipulation in the
Sri Lankan Stock Market
INTRODUCTION
A stock market is expected to present a level playing field to all investors. However, stock holders trading in the
Colombo Stock Exchange (CSE) have encountered hurdles to trading, coming from both major private investors and
errant government elements.

These hurdles refer to various methods of market manipulation, such as insider trading and pump-and-dump tactics
that artificially jostle share prices towards the benefit of a handful of individuals. The distortion of the structure of the
market through these market manipulations seem to go unpunished as investigations are halted or fade away from
public interest rapidly, ensuring that the perpetrators of these white collar crimes go unpunished.

This Position Paper will examine the definitions and consequences of market manipulation and recent scandals that
have shocked traders at the CSE. It will also investigate possible methods to prevent and diminish the occurrence of
market manipulations at the CSE.

Transparency International Sri Lanka | 1


Position Statement The manipulation described above is but one
example of a myriad of pump-and-dump rackets
The responsibility for maintaining a level witnessed on the trading floor. It involves the
playing field falls on the Securities and Exchange overvaluing of shares so that stock holders are able
Commission (SEC) and the investors themselves. to sell their shares at an artificially inflated price.
Directors, stock brokers and capitalists no longer However, this comes at the expense of another
play within the rules of the game and while greed party, in the example above the loser is the pool
is good in investing, it should be exercised within of EPF funds.
parameters applicable equally to all market players.
It falls upon Civil Society Organizations (CSOs) to Another example of public funds being used in a
educate the public on the rules of the game and pump-and-dump transaction is that of the EPF
raise public awareness on the consequences of purchasing stock in Galadari Hotels (Lanka) PVT
a corrupt stock exchange. It falls upon the SEC LTD in 2010. The EPF purchased 23.7 million
to resist politically-motivated impediments to shares in the company, at Rs.32.50 a share. The
investigation and efficiently regulate the market value of these shares, as at July 2012, is at Rs.11
while prosecuting the perpetrators of white per share, which amounts to a loss of Rs.500mn.2
collar crimes. Additionally, it falls upon the SEC to The previous owners of the share, Nawaloka
educate the government on the purpose and effects Hospitals, was reported to have been relieved to
of regulation, as it is currently seen as a negative have gotten rid of the burden of the loss making
influence in market economics. It falls upon the Galadari Hotels (Lanka) PVT LTD. It is convenient
media to pursue alleged white collar criminals and that a loss making company was transferred from
expose their misdeeds in the public light, and to private stock holders to an institution that deals
also raise public knowledge on the workings of the with public funds.
CSE and the links between good governance and
good corporate practices. The total value of losses incurred by the EPF in the
stock market is placed at over Rs.4bn, according to
What is Market Manipulation? Economist Dr. Harsha De Silva MP.3 But the Central
Bank of Sri Lanka has rebuffed any allegations of
This refers to the deliberate interference in the fraud in its dealings in the stock market, saying
free and fair operations of a financial market. The that there is a long-term focus to generate profits
aim of manipulation is to paint a false picture of and enhance the Funds capital base.4 However,
the market, misleading investors and analysts. investments made in 2010 seem to have generated
The CSE has been plagued by a barrage of market massive losses all the way up to 2012, so the fruits
manipulations in the recent past. In 2011, the of these long term investments are yet to be
Employees Provident Fund (EPF) bought an 8% realized.
stake in Laugfs Gas PLC for Rs.1.6bn, pushing share
prices up to between Rs.38-41 per share. However, Insider trading is another form of market
through this inflation of share prices, the stock manipulation. It is the unfair use of trading by
was sold at Rs.51 per share before coming down those within privileged access (insiders) to
to Rs.40 that same day.1 As at 4th July 2012, the information that has not been disclosed by a
share price of Laugfs Gas PLC is Rs.19, amounting company to the public (undisclosed information)
to a loss of Rs.1,389mn to the EPF. It is clear that and which information would, if made public,
the brokers involved made a massive profit by have an impact on price of securities of that
artificially inflating share prices. This example company.5 The EPF also made clear its adherence
highlights another problem, which is the misuse of to accounting standards and credibility of internal
public funds. auditing procedures, rebuffing Dr Harsha de Silvas
claims of market manipulation by alleging he had

1. EPF loses Billions as Central Bank Buys Over Valued Shares in an Insider 3. Harsha Rebuffs CBs Rosy EPF Story (23rd May 2012) (accessible at http://
Trading Racket (4 July 2012) Hemmathagama, Ashwin ( accessible at http:// www.ft.lk/2012/05/23/harsha-rebuffs-cbs-rosy-epf-story/)
www.thesundayleader.lk/2012/06/03/epf-lose-billions-as-central-bank-buys- 4. EPF rejects UNP MPs Allegations of Fraud (22nd May 2012) (http://www.
over-valued-shares-in-an-insider-trading-racket/ ) ft.lk/2012/05/22/epf-rejects-unp-mps-allegations-of-fraud/)
2. EPF loses Billions as Central Bank Buys Over Valued Shares in an Insider 5. Quoting Mr. Arritha Wickremanayake,TISL Samabashana Discussion held
Trading Racket (4 July 2012) Hemmathagama, Ashwin June 4th 2012

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a political agenda behind his analysis. However, at hand; Taprobane Securities was the firm that
once we move past the jaded political rhetoric of authorized the purchase of these shares and
our Sri Lankan institutions and politicians, we the director of the company was the individual
find it hard to disregard the evidence of massive selling these shares. The SEC has stated that they
loss-making investments made by a company that are investigating Taprobane Securities for insider
deals with public funds. Laugfs Gas PLC, Ceylon dealing, front running and conflict of interest
Grain Elevators, Brown and Company, Galadari violations even though an internal investigation
Hotels and The Finance Company all appear to be into the incident is yet to be undertaken.8
unsound investments, incurring huge losses to the
EPFs pool of public funds. It is hard to pinpoint the exact cause of market
manipulation; it could be greed in the mind of the
An article titled Insider Trading Unavoidable? controlling interest or senior ranking director or it
published in 2011 sheds light on a peculiar detail of could very well be poor corporate governance. As
Sri Lankas investor community; the geographical Warren Buffet once said, Earnings can be pliable
distribution of stock market players aids in the as putty when a charlatan heads the company
speedy transference of material information. Nimal reporting them.9 A Sri Lankan example of this is the
Perera, an investor at the CSE, mentioned that we case of Watawala Plantations. Recently the directors
are all insiders, including the regulators, as we are stripped the company of its marketing division
a close-knit society.6 These controversial remarks with no prior consultation with the shareholders.10
highlight not only the ease with which material Arbitrary decisions made without the consultation
information may pass through investor circles, and consent of the stock owners points towards
but also the callousness with which perpetrators serious concerns over the transparency and good
may publicly claim their nefariousness. The article corporate practices of the directors. This section
goes on to describe the two types of insider traders was sold for Rs.741mn when the companys true
-Primary insiders, who have access to material value stood between Rs.2.5-3bn. In this case, it
information and Secondary insiders, those who is hard to see who gains from manipulating the
obtain material information from primary insiders. market, yet it is easy to see how poor corporate
governance leads to slights on the trading floor.
Although conflicts of interest might not be a form
of market manipulation, it is worth exploring The question of who is involved with market
the role they play in the erosion of fairness and manipulation is somewhat complex in its
transparency on the trading floor. dimensions. As we can see from the examples cited
in this document, the perpetrators are high ranking
A scandal in the recent past is that of the National executives and stock brokers. The misuse of public
Savings Bank (NSB) purchase of The Finance funds seems to allude to the fact that there could be
Company (TFC). In a nutshell, this scandal is rouge political elements at play.
concerned with the purchase of 13% of TFC by
NSB for Rs.49.74 a share, whereas typical share The Effects of Market Manipulation
prices were at Rs.30.7 Following public disclosure
of this deal, President Mahinda Rajapaksa halted It is a common misconception that white collar
payment and ordered Secretary to the Treasury, crime involves the rich stealing from the rich.
Dr. P B Jayasundera to initiate an investigation However, in Sri Lanka this is not the case.11 As seen
into the deal. The 13% of TFC shares were to be in the NSB scandal, the savings of the Sri Lankan
purchased from two of the companys directors, people were plundered in order to artificially inflate
Dinal Wijemanne, CEO of Taprobane Securities, stock prices. This callous use of public finance
and Raynor De Silva, ABC Radio Managing Director. has obvious repercussions; a poor investment,
It came to light that there is a conflict of interest merely set in motion to paint a false picture of a

6. Insider Trading Unavoidable (21 July 2011) Antonio, Jithendra (accessible at 9. Good Governance Equals Healthy Stock Market (accessible at http://www.
http://srilankastockpicks.blogspot.com/2011/07/insider-trading-unavoidable. greekshares.com/good_governance.php)
html ) 10. Watawala Plantations not Acting in the Interests of all Shareholders: Vignara-
7. NSB board on the Mat (6 May 2012), Obeyesekere, Srian ( accessible at www. jah (6th May 2012) (accessible at http://www.sundaytimes.lk/120506/Business-
nation.lk/edition/latest-top.../5798-nsb-board-on-the-mat.html) Times/bt10.html)
8. SEC Investigating Taprobane Securities for Multiple Offences on the NSB Deal , 11. Interview with Mr.Arritha Wickremenayake (Conducted 12th July 2012)
Yapa, Vimukthi (accessible at http://www.thesundayleader.lk/2012/05/20/sec-
investigating-taprobane-securities-for-multiple-offenses-on-the-nsb-deal/)

Transparency International Sri Lanka | 3

companys value, yields a poor return in the long brokers and a myriad of other market manipulations
run, hemorrhaging money rather than appreciating and investor speculation.16 The article cited for this
the value of the initial investment. This erosion of claim also goes on to mention how brokers have
value will put the NSB in hot water as bank patrons a heavy hand to play in the creation of a bubble,
realize their money has been squandered in this as they gain on the commission received from
investment process. brokering stock transactions. It also mentions a
group of high net worth individuals who prop up
Another consequence of market manipulation is the market through the purchase of illiquid stock
shareholder fatigue. This is a phenomenon that (also known as penny stocks)17
occurs when minority shareholders do not receive
dividends on their preferred stock.12 As company The stock market crash of 2011 persists today,
directors become tied up in the profit reaping with a year-to-debt ratio of 20% reported in May
on their manipulations, their companies usually 2012, which amounts to a loss of Rs.40bn.18 We can
suffer under long term over valuation of stock. now clearly see how brokers and investors play a
As in the case of Watawala Plantations, ordinary crucial role in preventing a bubble from forming
shareholders are denied the right to exercise yet, in the Sri Lankan context, this responsibility
control over their company. Market economics is rarely carried out. We also see how one market
dictate a divorce between company ownership and manipulation can lead to a variety of unintended
control, yet ordinary shareholders are presented negative effects, i.e. over-valuation of stocks leading
with voting rights (whereas preferred stock holders to a stock market bubble and subsequently, a crash.
typically do not receive voting rights) to steer the
direction of their company. In addition to the effects pointed out above, it
is critical that we understand the erosion of
Market manipulation allegations, whether proven confidence in the CSE, the irreparable damage
or false, deter investors from entering the trading done to once credible institutions such as the NSB
floor and impede foreign direct investment in the and, ultimately, the unfortunate deterrence of
country. When the Sri Lankan civil war ended in investment in the Sri Lankan economy. Currently,
2009, the country seemed to have a bright economic the CSE is a vulnerable institution, illiquid and
future, with great foreign interest in investment exposed to the whims of a few high value investors.
opportunities.13 In the previous year, Sri Lanka had The once bright outlook presented to investors in
witnessed massive investment from Malaysia and mid-2009 has now turned to a market rife with
India, giving analysts the ability to predict good scandal and corruption.
tidings for the Sri Lankan economy. However, the
Central Bank of Sri Lankan (CBSL) mentioned in a Alleviating Market Manipulation
2009 report that foreign direct investment in Sri
Lanka was inadequate.14 Yet, by 2011, it seemed The Securities and Exchange Commission (SEC)
that Sri Lanka was far from the tiger economy status was established in order to promote, develop
it had been bestowed in 2009. The bubble burst in and maintain a capital market that is fair, efficient,
2011, with the all share price index reporting an orderly and transparent.19 It is expected to
all-time low of 3.5% negative earnings and a total advise the government on the development of the
loss of Rs.141bn in October 2011.15 securities market and to regulate the listing and
issue of securities in the licensed stock exchange.
A bubble occurs when share prices are inflated to This institution subscribes to these lofty principals,
levels higher than their real value, usually through but has been unable to curb market manipulation.
the dissemination of false performance rumors by The SEC has also undergone leadership changes

12. Interview with Mr. K.C. Vignarajah 16. Broken Bubble (4th December 2011) (http://www.lankabusinessonline.
13. Sri Lanka sees Foreign Investment Quadrupling as Civil War Ends (1st June com/fullstory.php?nid=262954294)
2009) Cherian, Thomas (accessible at http://www.bloomberg.com/apps/ 17. Interview with Mr. Arritha Wickremanayeke
news?pid=newsarchive&sid=aAn_Qy8nT9mA) 18. Stock Market Crash Persists (30th May 2012),
14. Compilation of Foreign Direct Investments in Sri Laka 2009 report 19. Securities and Exchange Commission website (http://www.sec.gov.
published by the Central Bank of Sri Lanka (http://www.cbsl.gov.lk/pics_n_ lk/?page_id=1434&lang=en)
docs/10_pub/_docs/other_publications/occasional_papers/op66.pdf)
15. Sri Lankan Stock Market Crashes to Lowest Level in 2011 (19th October
2011) (http://ictking.com/news/2011/10/sri-lanka-stock-market-crashes-to-
lowest-level-in-2011/)

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that seem to allude to a corrupt stock market. In It is thus clear that the SEC ought to pipe up and
December 2011, chairperson of the SEC, Indrani do more than sit complacent with entities such
Sugathadasa, resigned in order to uphold her as the Brokers Association undermining their
principles.20 Her resignation could be chalked up regulatory capacity. A more hands-on approach is
to attempts to regulate more efficiently being shot required, one that investigates and fully prosecutes
down by the Brokers Association of the Colombo individuals accused of white collar crimes. The SEC
Stock Exchange. The Association met with President Act is sufficient to regulate the market; however,
Rajapaksa in order to convey their concerns over the resources and infrastructure to prosecute
regulation in the credit market. We see here that the perpetrators and regulate the market need to be
brokers are able to sway the highest political order built up to the point where the issue of white collar
in the land in order to get their way. crime becomes something that is severely looked
down upon in the public sphere. In addition,, the SEC
While regulation is not a method in which market Act should incorporate sections relating to push-
manipulation can be cured, it merely provides and-dump transactions, providing a definition and
a basic framework of facilitating operation of definitive legal sanctions against perpetrators of
markets.21 There seems to be a Sri Lankan these transactions.
misconception that regulation inhibits the workings
of a stock market, creating constraints to brokers. As such, perceptions of white collar crime have to
This conception might be true, if brokers would be changed; it is no longer a case where the rich
rather be free to carry out nefarious activities than are stealing from the rich, it is quite evident that
be subject to a system of checks and balances! The the rich are stealing from society as a whole. Public
point of regulation is to create barriers to those who awareness is essential in changing perceptions;
would subvert the level playing field and prosecute the rules of the game must be disclosed to the
those who are foolish to flaunt it and get caught.22 public, in forums or educational programmes, any
However, the SEC seems to be unable to carry out medium that allows society to gain understanding
its duties, let alone prosecute the perpetrators. of the workings of financial markets. The fourth
As we can see from the NSB-TFC deal, the SEC was estate too plays a part in this as they are in charge
sadly absent when the transaction was made. The of the dissemination of information to the public.
SEC has assured traders that an investigation will It was made clear that certain rotten journalists
be conducted.23 Knowing that public funds were aid the cause of errant traders, reporting facts that
being used, the SEC should have intervened to cause minority investors to hastily purchase a share,
halt the transaction, even when a clear conflict of in order to send the price sky rocketing, while the
interest existed in the brokerage house. The culture controlling interests sell off their stock, making
of regulation has become lawless, due to a lack of massive profits.25 It must also be made clear to the
regulation giving rise to a class of criminals24 In investors that regulation is not aimed at people, it is
order to alleviate this issue, the Government should supposed to be fair and transparent, giving investors
be enlightened as to the beneficial effects of good rules to be followed by all involved on the trading
and fair regulation, that it is not an impediment floor. It should be free from political interference
to success in the stock market and that it merely and should not be undermined by errant financiers.
provides a framework for a level playing field. If
we understand regulation to be simply that, then In addition to this, the judiciary must be armed with
perhaps those who push for less market regulation the legal tools required to prosecute white collar
are only attempting to cover up their tracks. criminals. As of the 17th of July, no code of conduct
or ethics statement exists on the SEC website,
indicating that this is an appropriate place to start

20. Sri Lanka SEC Head Resigns (2nd December 2011) (http://www.colom- 24. Interview with Mr. K.C. Vignarajah
bopage.com/archive_11B/Dec02_1322770426CH.php) 25. Interview with Mr. K.C.Vignarajah
21. Mr. Arritha Wickremenayake at a Sambhashana Discussion held June 4th 2012
22. Mr. Arritha Wickremanayake at a Sambhashana discussion June 4th 2012
23. Rienzie Lashes out at Culture of Bad Governance (10th May 2012) Andree,
Mario (http://www.island.lk/index.php?page_cat=article-details&page=article-
details&code_title=51566)

Transparency International Sri Lanka | 5

 making a difference; a code of conduct will ensure Recommendations
high standards of practice and a solid document that
gives regulators some sort of backbone. In the past, The government should reinvigorate its faith
regulators have had too cozy a relationship with in the SEC as an efficient regulatory body and
company directors.26 This too will be addressed in gain a deep insight into the beneficial effects
an effective code of conduct. of effective regulation in the stock market. The
government should not cave into the demands of
In addition, CSOs have a large part to play in public high net worth investors and must understand
awareness of white collar crimes. It is clear that the the highly illiquid nature of the stock market as
Sri Lankan public has very little understanding of it stands right now.
how financial markets work. Given this gap in the
knowledge base, those who do know the rules are The SEC must develop a strong stance on white
able to manipulate them to gain personal advantage, collar crime, resisting both political interference
or to even work in tandem with others in order and independent interference (from bodies such
to fix the market in their favor. In the case of the as the Brokers Association). Through the CSEs
EPF, it seems that the public were unaware of the education wing, public awareness must be raised
implications of public finance being used to play in on the overstepping of major investors and the
the stock market. effects of market manipulation.

26. Interview with Mr. Arritha Wickremanayake The SEC must also raise awareness on the ability
of the SEC Act, that it is a legal document to
be followed by investors that provides a level
playing field. In this same vein, awareness of the
Discussing insider trading various possible avenues of market manipulation
Insider trading in the Stock Market was the theme of a must be made. This public awareness will instill
Sambhashana discussion organised by TISL in the aftermath of
the NSB TFC deal.
a sense of what is acceptable and what is not on
the trading floor.
Opening the discussion, former Director-General of the Securities
Exchange Commission (SEC), Arittha Wickremanayake said that
there is a serious lack of understanding as to why insider trading
is considered to be an offence. Adding that recent scandals have CSOs must conduct public awareness campaigns
clearly highlighted that whilst people like the idea that there is a
scandal, they dont really try to understand why it is dangerous,
on the misuse of public funds in the stock
and the public interest in stopping it. exchange, how the stock market works in an
He added that although there is a dangerous perception that elementary form and how white collar crime
regulation is a cure for every market illness, it is not so. Regulation
merely provides a basic framework for facilitating operations of affects more than just rich people. The need for
markets, and in Sri Lanka, the object of the SEC is to create and
maintain an orderly and fair market, and to regulate it and to
a change in perception is stronger now more than
ensure that professional standards are maintained, he said. ever. As mentioned earlier, public perception on
Parliamentarian Sunil Handunetti blamed the government for white collar crime must be changed; the public
manipulating the share market by investing government pension
funds like the EPF. Stressing that the government was responsible must understand that the implications and
for the public funds, which are life-long savings of innocent
people, he pointed out that instead of protecting these funds, the
consequences of market manipulation effect the
government is misusing public funds to inflate the capital market overall wellbeing of the economy and thus, the
to create a false illusion in the minds of the people.
public themselves suffer.
Parliamentarian Eran Wickramaratne pointed out the need
to appoint a Parliamentary Select Committee to investigate
the happenings of the stock market. Emphasising on the need
to protect the funds of the employees, he pointed out that the
government does not have a right to misuse this money for their
personal glory.

AFP Bureau chief Amal Jayasinghe was the moderator.

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