2008 CEO Message

To our shareholders and customers:

Last year was an extremely tough year for retail investors. The Japanese stock market remained volatile due to the global financial turbulence stemming from the issues related to U.S. residential sub-prime mortgages. Japanese emerging markets were particularly hit. Stock prices in the emerging markets including JASDAQ, Mothers and Hercules have remained low since the so-called “Livedoor Shock”, causing strong damage to retail investors. Since majority of retail equity trading value is margin transaction, the evaluation loss for retail margin traders due to the sluggish stock prices in the emerging markets significantly affected the overall trading capacity of retail investors through collateral of margin transaction and other factors, and then this led to decline in the trading motivation of retail investors in the broader markets including the first section of the Tokyo Stock Exchange. In fact, the proportion of retail investors in total equity trading value substantially decreased from the peak of 30% and is now at a historically low level of less than 20%. Unfortunately, this trend is likely to continue this year. If this situation would prolong, it would have detrimental damage to the overall capital markets in Japan. A market without liquidity has no appeal to investors. If foreign investors, the main player in the Japanese market at present in terms of liquidity, would give up on Japan, the game would be over for the Japanese capital markets and investors would withdraw their capital out of Japan. Once the Japanese market would fall to the level of a mere local market, its revitalization would be extremely difficult. We believe that the fate of the critical Japanese capital markets hinges on substantial financial assets held by Japanese retail investors. Unfortunately recent politicians tend to be conservative, we regret to say that they are extremely insensitive to fore-mentioned potential crisis. This is obvious from the recent discussion with regard to capital gain tax at the Diet. By the time they find out, it may be too late. We must be prepared for a harder year than last year.

This can be true for anything, but every hardship presents an opportunity. “There is a path leading to the mountain of flowers behind normal way.” It is always important to keep a positive mind “to make an uninteresting world interesting (it’s up to your mind to make it happen).”

We believe that distrust in Japanese emerging markets causes underperformance in these markets. However, denying the existence and the nature of the market itself makes no sense. Listed companies, financial institutions including securities companies and all market participants including the regulatory authority must work together to regain investors’ trust back in the market. Upon the enforcement of the Financial Instruments and Exchange Law in September 2007, financial institutions are further required to comply with accountability and suitability rules. In order not to repeat a range of misconducts stemming from the “suppliers’ logic ignoring investors” as observed in the capital market since the deregulation, we must understand the spirit of the Law and act accordingly as well as simply comply with the laws. That is to say, we need to review our business operation on an absolute basis. Those who cannot discipline themselves shall be eliminated from the market regardless of individuals or institutions. Matsui established the code of ethics at the end of last year to enforce self-discipline. I will be taking the initiative to adhere to the spirit of this code of ethics.

Meanwhile, the number of accounts at online brokers has increased rapidly in the last few years and Matsui has now over 700,000 accounts. The retail investor base, however, has not broadened as much as the number of accounts suggests. Looking at the equity trading value of customers at Matsui by the number of monthly transactions for each customer, the super-active traders with over 100 transactions a month (more than five transactions a day) represent 40% to 50% of total monthly trading value of Matsui. The number of the super-active traders merely 5,000 of total 700,000 customers at Matsui (or less than 1 percent). Online trading accounts surpassed 12 million in total, however, we can say that online brokers do not dominate the retail equity trading markets considering double-count of the accounts. In fact, the super-active traders generate the large part of transactions. We estimate that the number of the super-active traders is perhaps less than 100,000 for the entire industry.

Looking this way, the current competitive landscape at online broking industry is merely a result that brokers which attracted more super-active traders gained the market share in terms of trading value. In this context, we can say that some press reports explaining that the online brokers industry has peaked out based upon the recent decline in the number of new accounts acquired and slumping equity trading value is misinterpretation of the facts. The facts are that the online broking industry is still developing and the real competition for acquisition of retail investors has just started. If you compare this to climbing to the Mt. Fuji, we recognized that we haven’t even reached the third station. This is even clearer when we look at the equity assets under customers’ accounts which generate trading value. The equity assets under customers’ accounts at the five leading online brokers, which generate more than 70% of total retail trading value, amount to only ¥10 trillion or less than 10% of ¥100 trillion worth of equity assets held by retail investors. The argument that online brokers have dominated the retail market is nothing but a joke. An inflow of retail investors’ financial assets into the online broking industry is just about to gather momentum.

Having said that, the current competition merely represents a stage of competition for acquisition of super-active traders who came about as a result of significant reduction in the commission charge which was slashed to as low as one-thirtieth of that of pre-deregulation. This meant a lot in terms of significantly boosting the market liquidity. However, this is not the end of the story. This is just one scene for the First Stage of the competition. Matsui kick-off the First Stage of competition (with Mr. Matsumoto of Monex Securities participating in the opening as an ally). Later on, new entrants emerged and triggered a fierce price competition. Matsui, which initially enjoyed a market share of 80%, significantly lost its share in that process. As a top management, I feel strongly responsible for this outcome.

We believe that this is close to an end and the new phase or the Second Stage of competition is about to begin. It is general that the First Stage begins with price competition in every deregulated industry. It is usually a fierce competition exhausting financial resources. The competition ends as financially overstretched players drop out of the game. It is generally the case that there is always a scenario in place that price elasticity of demand disappears in the last scene of the First Stage. A quarter of a century ago, I learned this scenario when I engaged in the marine transportation business. Companies which rapidly grew on the back of cheap prices were all gone eventually. Despite such valuable experiences, I have forgotten it and made a huge mistake 2 years ago by implementing the measure for non-commission charge for the unlimited margin trading. The measure ended in a complete failure without any effects. We feel keen responsibility for confusing customers and were strongly penalized by significant underperformance of the business. It was my own fault.

Looking at this year, Matsui hopes to bring the curtain down on the First Stage by providing value added services other than lowering commission ahead of other players.

For such measures, we are thinking about launching the real-time settlement service by establishing the Proprietary Trading System. Execution and delivery of transaction which usually have a lag of three days in a standard transaction in the stock exchanges can be handled simultaneously under this service, and then it allow customers to do day-trading of the same stock as many times as they want on the same day. This will mean a significant improvement in capital efficiency for customers. In order to respond to needs of customers which is further increase in capital efficiency, Matsui came up with a structure of real-time settlement service. We would like to bring back super-active traders who are vital to online brokers at the moment and put an end to the First Stage.”

While the acquisition of super-active traders through introduction of real-time settlement service is our short-term measures in the last phase of the First Stage, the main theme in the Second Stage is whether online trading can be the leading part in the retail secondary market in a true sense. In that regard, the most important concept for us is “Marketing without Solicitation.” This is the fundamental core principle when I first started the online broking business. To put it the other way around, there is a hidden meaning that “Solicitation” may be allowed. The important point is separation of each of functions. Offline brokers and banks should have responsible for “Marketing with Solicitation”. Solicitation is costly. Consumers have a choice to decide whether they would like to accept the solicitation related cost or not. I believe that just a compromise: adding and dividing by two is an extremely easy-going solution, insulting customers. It is unlikely to be successful. Because such measures are often developed by regulated players who have not gone through challenges of deregulation. It’s either this or that.

The costs are very severe. Because costs are determined by customers. Customers never accept costs incurred based upon one-sided logic of suppliers. The essence of deregulation lies in cost competition. In other words, the “fake business” is based on costs unacceptable to customers, while the “real business” is based on costs acceptable to customers. The “real business” inevitably get rid of the “fake business”. There are many financial investment instruments in the world as it shifts from “savings to investment” including futures and option transactions, foreign exchange margin transaction, mutual funds, etc. The most important thing for the business is not simply to increase financial investment instruments or line-ups, but to provide them in what form and how in front of customers. We believe that whether we can get support from customers and become the leading player in the retail secondary market in the Second Stage of competition depends on that.

Matsui celebrates its 90th anniversary this year. We have remained independent under the name of “Matsui” for many years. Such brokers are extremely rare and may be limited to very few players such as Nomura Securities in the financial industries. We are very proud of the fact that we are one of the such players. This would not have been possible without customers’ support to Matsui, and we are grateful for that. I have recognized that it is my biggest responsibility as President & CEO to meet the expectations of these customers. Alliances with different types of businesses and players are critical in the new stage. We hope to build such alliances flexibly into the business model to develop the business which will be supported by customers. There should be no trade-off between tradition and innovation. We believe that we can gain trust of customers and win the competition only when both tradition and innovation go together. We would like to ask for your continued support this year as we mark the first step toward our 100th anniversary.

Michio Matsui
President & CEO
Matsui Securities Co.,Ltd.