Wealth Creation and Asset Protection – The Complementary Roles of Offshore and Onshore Capital Markets

Keynote Address
YBhg Datuk Ali Abdul Kadir
Chairman, Securities Commission, Malaysia

at the Labuan Lecture Series 2002

25 October 2002
Financial Park Complex, Labuan


1. It gives me great pleasure to be here this morning to deliver the Opening and Keynote Address for this lecture series. I am indeed very honoured by the invitation and I thank the organisers for this honour. Before I proceed, let me take this opportunity to congratulate the Association of Offshore Banks for their commendable efforts in organising this lecture series. Let me also welcome our distinguished speakers and delegates from abroad to our country. The presence of a wide interest group here today, ranging from professionals from the banking industry, insurance industry, accountants, lawyers to directors and senior management of Labuan-based companies as well as students confirms my belief that while much has been achieved, we have yet to realise the full potential of the offshore industries in Labuan.
2. Although the theme of this year’s Lecture Series is Wealth Creation and Asset Protection – A Labuan Perspective, I propose to speak on broader issues confronting offshore and onshore capital markets from the perspective of a regulator. After all, capital markets whether offshore or onshore, play a pivotal role in wealth creation. As long as there has been money, people have wondered how to keep it. The more the money, the more urgent the question.

We are all familiar with the “feel good” effect that a good bull run on the stock market can have. Similarly the role and effectiveness of regulation can have significant impact on the assets in the capital market. It is with this purpose that I have chosen to broaden the topic. And in so doing I hope I will not take the thunder from the other speakers who will be speaking on specific issues relating to Wealth Creation and Asset Protection later today.

4. While I may be more well known when I wear the hat of the Chairman of the Securities Commission (SC), some of you may be aware that I also wear the hat of a Board Member of the Labuan Offshore Financial Services Authority (LOFSA). In preparing for this speech, I have therefore used both hats as my thinking hats and I will therefore be speaking about both the onshore and offshore markets and the challenges faced by regulators in both markets.

Labuan as an International Offshore Financial Centre
Ladies and Gentlemen,

5. The concept of offshore centres is as old as commerce. The island of Delos off the coast of Greece was one of the places the wealthy of the ancient times stored their treasures. Protected by water, with few natural resources other than a harbour, the leaders of the island learned that the rich of the mainland would pay handsomely for an assurance that their valuables were safe and protected. Delos set the pattern for financial centres. For the most part, they are tiny islands with limited natural resources located near a major thriving economic centre. But of course, we know that there is much more to offshore financial centres than just this today.
6. Labuan, both as an island and as an International Offshore Financial Centre (IOFC) is indeed privileged to have attracted so much attention from the Government. Indeed, the Government has played an important role as a catalyst in the development of Labuan. Labuan was declared as an IOFC in October 1990, to complement the activities of the domestic financial market, to strengthen the contribution of financial services to Malaysia’s GNP as well as to develop the island and areas within its vicinity. The Government had the foresight to realise the importance of developing an offshore financial centre to provide a range of financial services given the more globalised, liberalised and increasingly integrated global economic and financial system in which we are operating. It was envisaged that Labuan as an IOFC would play a key role in complementing the activities of domestic or onshore financial markets and thereby strengthen the contribution of the financial services sector to the economic growth of Malaysia. Specifically designed legislation and regulations, primarily based on the experiences of other IOFCs around the world, provide the framework for business in the IOFC. Combined with a flexible and favourable tax treatment and low cost of setting up and operating businesses in the IOFC, this framework has succeeded in attracting substantial numbers of international businesses to domicile in Labuan.
7. A quick look at the numbers speaks volumes of the success of Labuan as an IOFC. As at end of 2001, Labuan has 3085 registered offshore companies from about 60 countries. In terms of companies providing financial services, it has 18 trust companies in 2001, 98 offshore insurance companies and 54 offshore banks. Apart from these statistics, I am convinced a very significant amount of wealth of high net worth individuals and corporations are also held offshore in Labuan.
8. In the area of capital market, within the space of four years there are 12 licensed fund managers, 17 mutual funds with approved fund size totalling USD 815 million. Today, as we are all aware, the offshore business activities are further boosted with the establishment of the new Labuan International Financial Exchange (LFX) which is intended to complement various offshore financial services currently available in Labuan. LFX now has nine listings comprising investment funds, Islamic notes and debt securities, with eight listing sponsors and six listing agents.
9. To put those capital market related figures in perspective, on the domestic front we now have the Main Board and Second Board as well as the MESDAQ Market providing listing facilities and MDEX offering financial and commodity futures products. There are 556 counters listed on the Main Board, 294 on the Second Board and 12 on MESDAQ. Intermediary services are provided by 43 stockbroking companies, 78 fund management companies and 43 investment advisers. We also have 38 approved unit trust management companies managing, 174 unit trust funds with a total net asset value of RM 55.103 billion.

Critical Success Factors for an IOFC

10. As you may be only too aware, the critical success factors for an offshore financial centre are many. First, you need the leadership and commitment of the Government. Labuan IOFC I think has been blessed with extraordinary support, leadership and commitment from the Government.
11. Secondly, there must exist relatively well-developed physical and legal infrastructure. In this regard I think Labuan has over the last decade, successfully developed both. The spanking new airport that greets every visitor to Labuan, this Financial Park Complex, the good roads etc, are testimony to this. The legal infrastructure is also complete with legislation dealing with all aspects of financial activity – from Trust Companies to Banking to Offshore Companies and Securities Industry. I believe LOFSA in fact administers even more Acts of Parliament than the SC!
12. The third critical success factor is ensuring the existence of a real financial centre. While this may sound trite, I am sure we all have heard of financial centres that are no more than booking centres with hardly any activity except that of making brass plates of the names of the companies! To me a real financial centre must have real financial activities with intermediaries and other professionals actually residing there rather than passing through with overnight bags! Indeed the presence of so many Labuan offshore players today is testimony to the fact that Labuan is not merely a brass plate offshore centre.
13. Fourthly, of course an offshore financial centre needs a regulator not only to ensure that financial activities are carried out in fair, efficient and transparent manner but also to ensure it does not attract the wrong players, the wrong activities and indeed the wrong type of money! After all we know that good reputation is very difficult to earn but very very easy to lose. This is true not just of individuals, but also of companies, institutions, regulators and indeed countries. It certainly is true for offshore financial centres – people generally have an idea of which are the more reputable financial centres and which are the ones to be avoided at all cost. My truly unbiased opinion is that the LOFSA under the Chairmanship of the Governor of the Central Bank is doing an excellent job in this regard. In this regard, Labuan IOFC can take pride in the fact that its growth and rapid development has been built on a strong regulation and a strong reputation.
14. Finally all the physical and legal infrastructure, enthusiastic offshore players and an efficient regulator cannot ensure the success of an IOFC unless there exists a wide array of products and services to cater to the needs of investors from the region, if not from all parts of the globe. In this regard offshore players and LOFSA must work together to actively, indeed proactively, identify products and services that will sell.
15. Again Labuan has achieved a lot in this regard, but perhaps more can be done. Indeed more must be done. In so doing we must look beyond traditional products and services offered by the more established IOFCs, we must identify our niches and capitalise on the extensive network that Malaysia has established in the international arena. We must identify new customers such as the less developed countries in this region and in other parts of the world and identify the products and services that we could offer and package such products and services accordingly. Being on different parts of the economic development curve, what these countries need from a financial centre may differ from what our traditional customers in the more developed countries in the Far East or in Europe need. But we have to open our minds and look beyond our traditional markets because this is a challenging time for us all. If our Prime Minister can criss-cross the world in search of new markets for Malaysian products, I cannot see why those of us who have a stake in Labuan’s success cannot do the same. In fact to me, this is the only way forward for Labuan, because traditional models, traditional markets and indeed traditional products are increasingly getting less relevant, if not completely irrelevant.
16. In this regard, I wish to yet again challenge the LFX to consider being a ‘surrogate exchange’ for less developed countries such as those in Africa. Some of these countries may not have the resources to set up an exchange or may not have the critical mass of companies to justify the establishment of their own national stock exchange. LFX can offer these companies an efficient and cost effective access to foreign capital. I have personally explored this proposal with some African Heads of State and have received positive responses. I hope LFX and LOFSA will take the cue and aggressively explore this so that at next year’s Annual Lecture Series we will no longer talk of the Surrogate Exchange as a proposal but as a successful reality!
Responding to the Changing Global Business Environment


The development of Labuan IOFC is a long-term agenda for the Government. The unwavering commitment and support of the Government together with the offshore players will ensure that Labuan IOFC continues to grow from strength to strength. Nevertheless, the global business environment has become more challenging in the face of the rapid developments in information technology, globalisation and consolidation in the financial industry as well as a generally more competitive playing field. The business environment and the rules of the games are continuously evolving. Business strategies and focus are shifting and geographical location is no longer a major factor in attracting businesses. Rapid advancement in information and communication technology means the concepts of space and time continues to shrink even further. In Labuan’s evolution as an international financial centre, it needs to take cognisance of the fact that there are other key drivers for change, in addition to the fiscal concessions and liberalised and facilitative regulatory framework. These other drivers of change are –

  • Global quality communication network enabling 24-hour access to the international financial markets;
  • The economic growth pattern of the location/region creating the need for such services; and
  • The presence of international financial service entities in the vicinity.
18. Given this scenario, Labuan IOFC needs to be dynamic, innovative, and efficient to remain relevant. It other words, Labuan as a financial centre and its players need to be agile, adaptive and responsive to the many challenges. Ultimately, any financial centre that exhibits and practices these characteristics will stay at the forefront in this more challenging environment.
19. Like all other offshore financial centres, Labuan is also increasingly coming under greater international scrutiny. To ensure that supervisory and legal framework is favourable and in accordance with internationally accepted standards to withstand challenges and competition from globalisation and liberalization, there must be prudential and effective supervisory practices. In this regard it is well recognised that Labuan as an international offshore centre is faced with a challenging task not only to continually assess and upgrade its regulatory framework in order to ensure that its regulatory framework is on par with the latest international supervisory requirements but also to ensure its operations as an international offshore centre caters to and meets the expectations of international sophisticated players.
Complementarity between Offshore and Onshore Capital Markets

It is the vision and aspiration of the SC to see Malaysia developing a resilient, progressive and competitive domestic capital market as well as a well-developed and successful offshore market. We would like to see a Malaysian financial system that is able to withstand future shocks without adversely affecting macroeconomic stability. A financial sector that is able to support the nation’s economy effectively and facilitate the economic transformation process in order for the country to attain the status of a developed nation by the year 2020. In this regard, I am most pleased to note significant areas of convergence in the strategy that is articulated for Labuan IOFC in the Financial Sector Masterplan (FSMP) and the 10-year strategic road map for the onshore capital market that is in the Capital Market Masterplan. As stated in the FSMP, the IOFC in the future is not only a centre that thrives on offshore financial services, but also one which is developed holistically to support the development of Labuan as an island, and plays an effective complementary role to the domestic financial market.

21. Onshore capital market exists for a multitude of reasons. It exists to provide issuers and other users of capital with an avenue to raise capital from the public. Indeed the onshore capital market is an extremely important engine for the country’s economic growth. It serves to meet the funding need of companies to enable them to grow. It exists to provide investors with avenues to invest their funds directly in companies through the stock market or through collective investment schemes like unit trusts. It also exists to fulfil the huge investment appetite of institutional funds like Employees Provident Fund (EPF) and Tabung Haji. It is conservatively anticipated that of the RM1.5 trillion that is needed to fund the country’s economic growth for the next 10 years, at least one third or RM500 billion will be raised through the capital market. In fulfilling all these needs the onshore capital market is supported by market intermediaries – the stockbrokers, the fund managers, investment advisors, etc.
22. Unlike in the offshore market, the investors in the onshore market include the retail players, the ‘moms and pops’ as they are known in the west. Similarly, the issuers range from the big blue chip companies to very small companies raising a few million ringgit from the MESDAQ market.
23. Given the nature and objective of onshore markets, the rules are designed not only to protect investors but also to facilitate issuers to raise capital efficiently and at low costs. An offshore capital market exists for a different purpose and guided by a different philosophy. The main rationale for use of offshore financial centre is to gain access to products and services that are unavailable onshore, which can produce real benefits for internationally focussed individuals and businesses in the pursuit of wealth creation or profit maximisation. The major difference between onshore and offshore centres is that the latter is focused on providing services to international clientele, as opposed to domestic customers. The “moms and pops” investors do not appear in your regulatory terminology. Similarly given the international nature of offshore markets, it does not play the same role as onshore markets as an engine for domestic growth.

In this sense, the onshore domestic capital market and Labuan as an IOFC have distinct and complementary roles to play. To borrow a term from the management consultants, the Key Performance Indicators (KPIs) of each market would differ. Hence, the success of Kuala Lumpur cannot be at the expense of Labuan and similarly the success of Labuan cannot be at the expense of Kuala Lumpur. It is for this reason that the concept of ‘ring-fencing’ between onshore and offshore market is critical, not only for the success of each market but indeed for the economic success of the country as a whole. Any attempt to prick too many holes in this ‘ring fence’ may have a destabilising effect and harm the economy as a whole. This is one of the lessons that has been learnt by some countries in the region during the crisis and we must make sure we do not make the same mistake.

25. Hence offshore and onshore markets should complement rather than compete with one another. We should share our skills, experiences and network in ensuring that we each achieve our own KPIs.
Challenges Going Forward

Going forward, however, it is clear that the Malaysian domestic financial market as well as the offshore market face a number of challenges. Several major global trends have resulted in significant changes in the environment in which capital markets now operate, making it more dynamic and competitive. The internationalisation of financial activity has witnessed rapid growth in cross-border investment activity, increased international fund-raising and more cross-border mergers and acquisitions. These developments have been prompted to a large extent by financial market deregulation in capital markets worldwide. This includes the lowering of barriers to cross-border activity and the increasing integration of financial products and services. At the same time, rapid advances in information and communications technology have brought many changes to market structures and the way they operate. These are well-known facts to all of us. As regulators both the SC and LOFSA must recognise that there is need to understand what drives the different market participants into our markets. Significant developments worldwide indicate these patterns :

  • Investors want to have the ability to take on exposures across a wide variety of investment opportunities. They prefer to invest in markets where liquidity is high and transaction costs are low. They want to see greater recognition of their rights and interests, and wish to have confidence and certainty in the environment in which they invest.
  • Issuers on the other hand, want low costs of raising capital and a breadth of financing options. They want appropriate value recognition of their securities within a vibrant and liquid market. At the same time they are also looking for efficient capital raising processes, including shorter ‘time to market’.
  • Market intermediaries are looking to widen their scope of business opportunities in response to the more competitive and changing environment. They are increasingly taking advantage of technology and innovation to stay ahead of the competition, and to provide value-added services and products to their customers. And like issuers and investors, they are also seeking vibrant markets that generate revenue.
  • Exchanges and clearing institutions are likewise taking active steps to offer all their stakeholders greater value. There is now aggressive competition for a share of the global investment activity. Hence, many have responded by restructuring, forming strategic alliances and becoming more commercially focused. For instance, there are now many exchanges that are part of cross-border trading networks and alliances, in order to widen their market reach and enhance market access.

In the light of these developments, it is crucial that the regulatory framework, market infrastructure and the competencies of intermediaries and service providers in the Labuan IOFC are able to respond to these challenges and effectively move up the value chain in the quality and range of services and products that are offered by term.

28. In conclusion, I wish to emphasise that the existence of a sound and resilient financial and capital market sector is crucial to support economic development and serve as an engine of growth in its own right. However the development of an effective policy would require both the commitment and proactive participation of the industry as much as it does the regulators. Indeed, our efforts towards building an internationally competitive and highly efficient capital market will no doubt be jeopardised if any one party fails to play its role meaningfully. While there is admittedly a long road ahead of us, I am certainly pleased with the progress that we have made thus far and I hope that the progress we have experienced so far will continue to accelerate in the years to come.
Thank you for your attention.