OPERATION OF STOCKS AND CAPITAL MARKETS IN CONTEXT IN FINANCIAL, LAW Capital markets are markets in which long-term funds

are raised by industry and commerce, the government and local authorities. The money comes from private investors, insurance companies, pension funds and banks, and its administration is usually arranged by issuing houses and by merchant or investment banks. Organized stock exchanges such as the New York Stock Exchange or the London Stock Exchange and other alternative trading systems are also part of the capital market in that they provide a market for the shares and loan stocks that represent the capital once it has been raised. It is the presence and sophistication of their capital markets that distinguishes the industrial countries from developing countries, in that this facility for raising industrial and commercial capital is either absent or rudimentary in the latter. The securities issued, sold and bought include both shares in companies and various forms of private and public debt. The capital market allows firms, governments and countries to finance spending in excess of their current incomes. It also enables individuals, firms and countries to lend to others savings they cannot employ as profitably themselves. Some transactions in capital markets involve the sale of newly issued shares and debt instruments, but the vast majority occur in secondary markets (organised stock exchanges and other trading systems) where existing shares and debt instruments change ownership. Primary and Secondary Markets When a government, company or local authority wishes to raise some extra cash in the capital markets to pay for a new project or serve existing financial commitments, the fund-raising will take place in the so-called primary markets. Primary markets are the markets into which a new issue of bonds, or any other form of medium- or long-term money-market paper, is launched. The securities whether shares or bonds will be issued to the investors for the first time and the money raised will go to the undertaking issuing the securities. Once securities have been issued they are subsequently traded as claims to ownership on secondary markets. The secondary capital markets are markets in which existing securities are traded, as opposed to a primary market, in which securities are sold for the first time. In most cases a stock exchange largely fulfils the role of a secondary market, with the flotation of new issues of securities to the investors representing only a small proportion of its total business. However, it is the existence of a flourishing secondary market, providing liquidity and the spreading of risks, that creates the conditions for a healthy primary market. The best-known examples of secondary markets are stock markets or exchanges where equities are traded.

Stock market or equity market is a public entity (a loose network of economic transactions, not a physical facility or discrete entity) for the trading of company stock (shares) and derivatives at an agreed price; these are securities listed on a stock exchange as well as those only traded privately. The stocks are listed and traded on stock exchanges which are entities of a corporation or mutual organization specialized in the business of bringing buyers and sellers of the organizations to a listing of stocks and securities together. The largest stock market in the United States, by market

capitalization, is the New York Stock Exchange (NYSE). In Canada, the largest stock market is the Toronto Stock Exchange. Major European examples of stock exchanges include the Amsterdam Stock Exchange, London Stock Exchange, Paris Bourse, and the Deutsche Brse (Frankfurt Stock Exchange). In Africa, examples include Nigerian Stock Exchange, JSE Limited, etc. Asian examples include the Singapore Exchange, the Tokyo Stock Exchange, the Hong Kong Stock Exchange, the Shanghai Stock Exchange, and the Bombay Stock Exchange. In Latin America, there are such exchanges as the BM&F Bovespa and the BMV. Market participants include individual retail investors, institutional investors such as mutual funds, banks, insurance companies and hedge funds, and also publicly traded corporations trading in their own shares. Some studies have suggested that institutional investors and corporations trading in their own shares generally receive higher risk-adjusted returns than retail investors. Participants in the stock market range from small individual stock investors to large hedge fund traders, who can be based anywhere. Their orders usually end up with a professional at a stock exchange, who executes the order of buying or selling Some exchanges are physical locations where transactions are carried out on a trading floor, by a method known as open outcry. This type of auction is used in stock exchanges and commodity exchanges where traders may enter "verbal" bids and offers simultaneously. The other type of stock exchange is a virtual kind, composed of a network of computers where trades are made electronically via traders. Market participants Market participants include individual retail investors, institutional investors such as mutual funds, banks, insurance companies and hedge funds, and also publicly traded corporations trading in their own shares. Some studies have suggested that institutional investors and corporations trading in their own shares generally receive higher risk-adjusted returns than retail investors. A few decades ago, worldwide, buyers and sellers were individual investors, such as wealthy businessmen, usually with long family histories to particular corporations. Over time, markets have become more "institutionalized"; buyers and sellers are largely institutions (e.g., pension funds, insurance companies, mutual funds, index funds, exchange-traded funds, hedge funds, investor groups, banks and various other financial institutions). The Role of Banks in Capital Markets Clearly, one may argue that banks and capital markets are antagonistic institutions. After all, a firm wishing to raise funds will either go to the bank and get a loan or go to the capital markets and receive funds from potential investors in exchange of equity or debt securities. It is therefore obvious that an increase in the share of capital markets in the financial system is followed by a

commensurate decline of the share of bank lending in the financial system. A new issue of securities to the public is a lost opportunity for a bank loan to the firm. This competitive relationship between banks and capital markets has not, however, resulted in the complete separation of the two subjects in legal literature. To the contrary, the ongoing decline of bank lending as a proportion of the overall provision of finance has prompted banks to explore other business opportunities and steadily engage in fee generating activities in capital markets. Hence, rather than banking and capital markets being two separate issues, the role of banks in capital markets has become increasingly important as banks more and more broaden their securities and capital markets activities. Thus, when commercial banks cannot grant a loan because the borrower has decided to borrow directly from the potential lenders and investors in capital markets, there is always an opportunity for the commercial bank or the investment-banking subsidiary of the commercial bank to earn some fees. Generally, commercial banks, which accept deposits and grant loans, are involved in securities markets directly (when the national legal system does not prohibit the notion of universal banking) or indirectly (through a subsidiary or affiliated investment bank). In the primary markets, banks in some countries are permitted to underwrite security issues either directly or through subsidiaries. Even where this is not permitted, underwriters will often turn to banks for credit in order to finance their activities. In the secondary market, similar considerations apply. A commercial bank may simply apply for a regulatory license to provide broker-dealer services to its clients, purchasing financial instruments on the customers behalf. More frequently, a deposit-taking bank will be affiliated to a financial institution engaging in securities activities, including broker-dealer services, investment advice, portfolio management or individual wealth planning and private banking services. Further, investment bankers and brokers will, on occasion, need to accumulate large amounts of stock in order to satisfy a block purchase and high customer demand, for which they may need short-term credit from a commercial bank in the inter-bank market. Dealers demand credit in order to finance their proprietary positions and to facilitate the buying and selling required of them in their role as market makers. Most financial institutions involved in capital markets normally need access to bank lines of credit to manage settlement delays or failures.

Importance of Stock Market Function and Purpose The stock market is one of the most important sources for companies to raise money. This allows businesses to be publicly traded, or raise additional financial capital for expansion by selling shares of ownership of the company in a public market. The liquidity that an exchange provides affords investors the ability to quickly and easily sell securities. This is an attractive feature of investing in stocks, compared to other less liquid investments such as real estate. Some companies actively increase liquidity by trading in their own shares.

History has shown that the price of shares and other assets is an important part of the dynamics of economic activity, and can influence or be an indicator of social mood. An economy where the stock market is on the rise is considered to be an up-and-coming economy. In fact, the stock market is often considered the primary indicator of a country's economic strength and development. Rising share prices, for instance, tend to be associated with increased business investment and vice versa. Share prices also affect the wealth of households and their consumption. Therefore, central banks tend to keep an eye on the control and behavior of the stock market and, in general, on the smooth operation of financial system functions. Financial stability is the raison d'tre of central banks Irrational behavior Sometimes the market seems to react irrationally to economic or financial news, even if that news is likely to have no real effect on the fundamental value of securities itself. But this may be more apparent than real, since often such news has been anticipated, and a counterreaction may occur if the news is better (or worse) than expected. Therefore, the stock market may be swayed in either direction by press releases, rumors, euphoria and mass panic; but generally only briefly, as more experienced investors (especially the hedge funds) quickly rally to take advantage of even the slightest, momentary hysteria. Crashes A stock market crash is often defined as a sharp dip in share prices of equities listed on the stock exchanges. In parallel with various economic factors, a reason for stock market crashes is also due to panic and investing public's loss of confidence. Often, stock market crashes end speculative economic bubbles. Stock market index The movements of the prices in a market or section of a market are captured in price indices called stock market indices, of which there are many, e.g., the S&P, the FTSE and the Euronext indices. Such indices are usually market capitalization weighted, with the weights reflecting the contribution of the stock to the index. The constituents of the index are reviewed frequently to include/exclude stocks in order to reflect the changing business environment. Capital markets in the Kenya provide the lifeblood of capitalism. Companies turn to them to raise funds needed to finance the building of factories, office buildings, airplanes, trains, ships, telephone lines, and other assets; to conduct research and development; and to support a host of other essential corporate activities. Much of the money comes from such major institutions as pension funds, insurance companies, banks , foundations, and colleges and universities.

Increasingly, it comes from individuals as well. As noted in chapter 3, more than 40 percent of U.S. families owned common stock in the mid-1990s. Very few investors would be willing to buy shares in a company unless they knew they could sell them later if they needed the funds for some other purpose. The stock market and other capital markets allow investors to buy and sell stocks continuously. In any event, Americans pride themselves on the efficiency of their stock market and other capital markets, which enable vast numbers of sellers and buyers to engage in millions of transactions each day. These markets owe their success in part to computers, but they also depend on tradition and trust -- the trust of one broker for another, and the trust of both in the good faith of the customers they represent to deliver securities after a sale or to pay for purchases. Occasionally, this trust is abused. But during the last half century, the federal government has played an increasingly important role in ensuring honest and equitable dealing. As a result, markets have thrived as continuing sources of investment funds that keep the economy growing and as devices for letting many Americans share in the nation's wealth. To work effectively, markets require the free flow of information. Without it, investors cannot keep abreast of developments or gauge, to the best of their ability, the true value of stocks. Numerous sources of information enable investors to follow the fortunes of the market daily, hourly, or even minute-by-minute. Companies are required by law to issue quarterly earnings reports, more elaborate annual reports, and proxy statments to tell stockholders how they are doing. In addition, investors can read the market pages of daily newspapers to find out the price at which particular stocks were traded during the previous trading session. They can review a variety of indexes that measure the overall pace of market activity; the most notable of these is the Dow Jones Industrial Average (DJIA), which tracks 30 prominent stocks. Investors also can turn to magazines and newsletters devoted to analyzing particular stocks and markets. Certain cable television programs provide a constant flow of news about movements in stock prices. And now, investors can use the Internet to get up-to-the-minute information about individual stocks and even to arrange stock transactions Capital markets have the potential to meet the fixed-capital needs of the private sector. They can ensure the efficient and sustainable funding of governments, corporations, banks, and large-scale or long-term projects. In addition, capital markets facilitate the mobilization and allocation of medium and long-term funds for productive investment by: a) Providing a simple mechanism for the transfer of funds; b) Facilitating companies access to a large number of local and foreign investors; c) Widening the array of financial instruments available to savers and investors

d) Increasing the diversity and competition in the financial systems. e) Providing market signals on current situations and future expectations. Generally, the effective functioning of capital markets requires the following: 12 a) Existence of an exchange, clearing and settlement system. b) Existence of a legal system to enforce contracts. c) Availability of information on financial soundness and future prospects of companies. Governance of corporations in a manner that gives investors confidence that their funds will not be stolen or wasted Developing countries are working towards reforming and deepening financial systems, through the expansion of capital markets in order to improve their ability to mobilize resources and efficiently allocate them to the most productive sectors of the economy. A significant policy change has been the establishment privatization programs, which have facilitated reduction in public debt, improved incentives and efficiency in the operations of the privatized entities, and facilitated better access to capital through the floating of shares to the general public. Over the past two decades, capital markets in developing countries have experienced a rapid evolution. CAPITAL MARKETS IN AFRICA In the past 15 years (1990 2005), liberalization and privatization have become dominant themes in development strategies in Africa. The changing attitudes towards the role of the private sector in the development of African economies has facilitated the development of the capital markets. In the 1990s many countries in Africa set up stock exchanges as a precondition for the introduction of market economies under the structural adjustment programs propagated by the international monetary institutions and to facilitate the privatization of state owned enterprises. Currently, Africa has eighteen securities exchanges, eleven of which began operations in the 1990s. The growth in market capitalization in Africa has been described as remarkable as more countries outside of the more advanced economies of the Maghreb region (Northern Africa) and South Africa venture into the development of their capital markets The majority of the countries establishing new exchanges in Africa have established new legal and regulatory regimes. International financial institutions such as the International Finance Corporation of the World Bank and various bodies of experts belonging to national securities exchanges of industrialized countries have provided important assistance with a view to building the legislative, regulatory, and accounting basis for the proper running of African securities

exchanges. In addition, inflation rates are on the decline and currencies are generally considered stable The African markets are not closely linked to other international markets as is the case in Asia. While this is may be a disadvantage to their growth, this independence has made them attractive to investors who are looking for markets that will not be significantly affected by shocks to major world markets as was the case during the Asian crisis in the 1990s. CHALLENGES OF DEVELOPING STOCK MARKETS IN AFRICA The political and economic decisions that were translated into legal framework for the establishment and operation of the stock exchanges were rushed in many African countries. Therefore, the exchanges have not been successful in attracting a large number of other market transactions in addition to the privatized public enterprises.31 Many of Africas stock exchanges are small, underdeveloped and illiquid. They tend to operate in isolation from other markets, have low trading volumes, are sheltered from competition by national regulations and face barriers to capital mobility because of high costs of travel and communications. African exchanges tend to be highly concentrated with the best shares being held by local pension funds, banks and insurance firms that do not want to sell because they have few alternative assets to buy with sales proceeds. In addition, the market infrastructure is underdeveloped particularly with regard to trading, settlement and delivery as manual systems and processes dominate their operations. Bond markets are relatively underdeveloped in Africas capital markets, yet they have the potential of mobilizing significant amounts of capital. They can also give African stock exchanges a tremendous boost in turnover as bonds are usually more attractive to investors than stocks. A well integrated and customized financial information service that provides timely and accurate information service to individuals and corporate institutions is necessary for the development of bond markets Stringent eligibility requirements have discouraged local entrepreneurs and indigenous enterprises that wish to raise funds from capital markets. The eligibility requirements as exemplified in the requirements for listing at the NSE have created high barriers to potential entrants to the stock exchanges such as the numerous family owned businesses in Africa. Thus, the stock exchanges tend to operate like closed membership organizations The Capital Markets Authority (CMA) in Kenya History

The capital market is part of the financial market that provides funds for long-term development. This is a market that brings together lenders (investors) of capital and borrowers (companies that sell securities to the public) of capital Establishment of the Capital Markets Authority In the 1980s the Government of Kenya realized the need to design and implement policy reforms to foster sustainable economic development for an efficient and stable financial system. In particular, it set out to enhance the role of the private sector in the economy, reduce the demands of public enterprises on the exchequer, rationalize the operations of the public enterprise sector to broaden the base of ownership and enhance capital market development. It had become evident that the commercial banks could not support and sustain a desirable economic development because they could not offer the necessary long-term credit. In 1984, a study on the Development of Money and Capital Markets in Kenya was jointly undertaken by the Central Bank of Kenya and the International Finance Corporation with the objectives of making recommendations on measures that would ensure active development and strengthening of the financial sector. This became a blueprint for structural reforms in the financial markets. The Government further re-affirmed its commitment to the creation of a regulatory body for the capital markets in the 1986 Sessional Paper on Economic Management of Renewed Growth. In November 1988, the Government set up Capital Markets Development Advisory Council and charged it with the role of working out the necessary modalities including the drafting of a bill to establish the Capital Markets Authority (the Authority). In November1989, the bill was passed in parliament and subsequently received Presidential assent (The Capital Markets Authority was set up in 1989 through an Act Parliament (Cap 485A,Laws of Kenya). The Authority was eventually constituted in January 1990 and inaugurated on 7th March 1990. The Authority is a body corporate with perpetual succession and a common seal Mission To promote market confidence, investor protection and access to financial services within capital markets in Kenya and the region through effective regulation and innovation. The principle objectives of the Authority are:
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The development of all aspects of the capital markets with particular emphasis on the removal of impediments to, and the creation of incentives for longer term investments in, productive activities;

To facilitate the existence of a nationwide system of stock market and brokerage services so as to enable wider participation of the general public in stock market; To create, maintain and regulate a market in which securities can be issued and traded in an orderly, fair, and efficient manner, through the implementation of a system in which the market participants regulate themselves to the maximum practicable extent; To protect investor interests; To operate a compensation fund to protect investors from financial loss arising from the failure of a licensed broker or dealer to meet his contractual obligations and To develop a framework to facilitate the use of electronic commerce for the development of capital markets in Kenya.

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The CDSC CDSC is the quality provider of clearing and settlement services in the Kenya Capital Markets. In line with its mission, it offers secure central custody and simplified, swift and safe transfer of investors value. In order to boost investor confidence in the Market, CDSC has created customized solutions which will ensure that the investors are aware of the transactions that happen in their CDS account whenever they occur.