Chapter 1

Financial System

Financial system is a network of Financial institution

market and mechanism that facilitates the flow of money,
capital and financial assets with the economy from surplus
sector to deficit sector
 Structure of Nepalese
Financial System

Capital Market(Regulated Coperative

BFIS(Regulated by NRB) Sector(Regulated by
Insurance Sector (Regulated by SEBON) Non Bank Finanical
Acts: NRB Act , 2058 Department of
by Nepal Insurance Act: Securities Act, 2063 Institution(Regulated by
BAFIA, 2073 Cooperatives & National Financial Infrasture
Authority Commodity Exhange and NRB and MOF
Coperative Regulation
Banking Offense and Acts: Insurance Act,2079 Market Act, 2074 Authority)
Punishment Act, 2064
Act: Coperative Act, 2074

Life Insurance Companies: Deposit and Credit

Commerical Bank :20 Security Market: 1 Coperatives: 32965 Emplyee Provident Fund
14 Guarantee Fund

Non Life Insurace Company: Insurance Information

Development Banks: 17 CDS and Clearing Limited: 1 Citizen Investment Trust
14 Center

Finance Companies: 17 Micro Insurance: 7 Brokers: 92 Social Security Fund Creidt Information Center

Microfinance Institutions:
Reinsurance: 2 Merchant Banker: 31 HIDCL
52

Infrastructure Development
Stock Dealer: 2 Payment Service Provider
Bank: 1

Credit Rating Agency: 3 Remmittance Company

Mutual Fund: 24

Listed Companies: 272

ASBA members: 43

Depository Institution:122
1. Banking Sector

According to BAIFA,2073 Section 2 “Bank means a

corporate body incorporated to carry on financial
transaction”

The banking sector is a network of financial institutions

that act as the backbone of the economy by facilitating
monetary transactions, managing credit, accepting
deposits, and providing investment services to individuals,
businesses, and governments. It enables financial inter-
mediation, acting as a bridge between savers and
borrowers to drive economic growth, while also managing
risks, remittances, and liquidity within the financial
system.

History of Banking System in Nepal

Phase I (Before 1994 Kartik 30)

The formal history of banking in Nepal began in the year

B.S. 1933 , during the tenure of then Prime Minister
Ranodip Singh Rana, with the establishment of Tejarath
Adda. Tejarath Adda was fully government-owned, and it
provided loans to the public at an interest rate of 5%
against gold and silver as collateral. However, Tejarath
Adda did not accept deposits.

The main objectives of Tejarath Adda were:

 To provide loans to government employees at low

interest rates.
 To protect them from the high interest rates charged
by local moneylenders.
 To initiate a formal government-controlled financial
system.

In B.S. 1989, the Taksar Adda (Mint Department) was

established, and for the first time, coins were minted in
Nepal.

Phase II (Beginning of Modern Banking)

 Under the Nepal Bank Act 1994, the first commercial
bank of Nepal, Nepal Bank Limited, was established on
30th Kartik 1994 B.S. Nepal Bank Limited served the
dual roles of a commercial bank and a central bank,
except for issuing currency. Its establishment laid the
foundation for the modern banking system in Nepal.
 On 1st Ashoj 2002 B.S., for the first time in Nepal, the
Sadar Muluki Khana (Central Treasury) issued currency
notes of Rs. 5, 10, and 100 denominations. At the time,
Janak Raj Pandit was the Head of Cashier. The notes
issued by Sadar Muluki Khana are referred to as “Old
Print”.
 On 14th Baisakh 2013 B.S., under the Nepal Rastra
Bank Act 2012, the Nepal Rastra Bank (NRB) was
established as the central bank of Nepal. Before the
establishment of NRB, Indian currency was widely used
in Nepal. Therefore, one of NRB’s major objectives was
to issue Nepali currency and ensure its circulation
within the country.
 On 7th Falgun 2016 B.S., NRB issued currency notes in
denominations of Rs. 1, 5, 10, and 100. At that time,
Himalaya Shumsher J.B.R. was the Governor of NRB.
The currency notes issued by NRB are referred to as
“New Print”.
 On 20th Chaitra 2013 B.S., the Bhakhan Cooperative
Institution was established in Sharadanagar, Chitwan,
becoming the first cooperative organization in Nepal.
Due to this, Chaitra 20 is celebrated as Sahakari Day. It
was initiated under the leadership of then Agriculture
Minister Bhakhan Singh Gurung.
 In 2014 B.S., the Nepal Industrial Development Bank
was established as the first development bank of
Nepal. On 1st Ashad 2016 B.S., it was transformed into
NIDC. Later, on 19th Baisakh 2073 B.S., it was merged
with Rastriya Banijya Bank.
 Under the Rastriya Banijya Bank Act 2021 B.S., Rastriya
Banijya Bank (RBB) was established on 10th Magh 2022
B.S. as the second government-owned commercial
bank.
 Under the Agriculture Development Bank Act 2024 B.S.,
the Agriculture Development Bank (ADB) was
established on 7th Magh 2024 B.S. However, ADB at
 that time did not accept deposits and only acted as a
facilitator on behalf of the government, offering
financial and technical assistance to farmers to
modernize the agricultural sector. On 31st Ashad 2062
B.S., ADB was transformed into Agriculture
Development Bank Limited (ADBL), and on 3rd Chaitra
2062 B.S., it obtained a commercial banking license.
 In 2025 B.S., a Banking Promotion Committee was
formed.
 In 2031 B.S., the Commercial Bank Act was introduced.

Phase III (Banking after the Adoption of Open Economic

Policy)

 During the fiscal year 2040/41 B.S., Nepal adopted the

Open Economic Policy. With economic liberalization,
private sectors were encouraged, and on 29th Ashad
2041 B.S., the Nepal Arab Bank Limited (now Nabil
Bank) was established. It was the first joint venture
bank in Nepal and the first private bank established
with both foreign and domestic investment.
 In 2042 B.S., the Nepal Indosuez Bank Limited was
established, which later became Nepal Investment
Bank Limited, and is now known as Nepal Investment
Mega Bank Limited.
 In 2043 B.S., the Nepal Grindlays Bank was established,
which is now known as Standard Chartered Bank Nepal.
 In 2049 B.S., to promote development in rural areas,
the Purwanchal Development Bank was established.
 On 11th Shrawan 2049 B.S., the Nepal Awash Bikash
Bitta Company was established.
 In Mangsir 2057 B.S., the Financial Sector Reform
Program (FSRP) was introduced to strengthen Nepal’s
entire financial system.
 In 2058 B.S., the Small Farmers Development Bank was
established.
 By the fiscal year 2066/67 B.S., Nepal had around 300
banks and financial institutions, categorized into A
(Commercial Banks), B (Development Banks), C
(Finance Companies), and D (Microfinance Institutions).
 However, recognizing the overgrowth and limited
access to banking services for the general public, the
government introduced:

Phase IV Merger and Acquisition

 Merger Policy in 2068 B.S.

 Acquisition Policy in 2070 B.S. Later, both policies were
combined to form a single Merger and Acquisition
Policy in B.S. 2073.
 By the end of Baisakh 2076 B.S., there were:
 28 Commercial Banks
 32 Development Banks
 24 Finance Companies
 91 Microfinance Institutions
 1 Infrastructure Development Bank
Totaling 176 banks and financial institutions.

Current Situation

Due to unhealthy competition and limited reach in remote

areas, the implementation of the Merger and Acquisition
Policy led to a consolidation, and by 2082 B.S., the
number of institutions reduced to 107, comprising:

 20 Commercial Banks
 17 Development Banks
 17 Finance Companies
 52 Microfinance Institutions
 1 Infrastructure Development Bank
 Physical Expansion: The total number of branches
has reached 11,526. Notably, commercial banks have
established a presence in all 753 local levels of Nepal.
 Market Depth: Total deposits in the banking system
have reached 119.98% of the GDP, while credit to the
private sector stands at 91.60% of the GDP.
 Sectoral Lending: Loans are strategically funneled
into priority areas, with 12.84% going to Agriculture,
7.79% to Energy, and 10.25% to Micro, Cottage, and
Small Industries.
 Asset Quality: The average Non-Performing Loan
(NPL) ratio is 4.62%. This varies by institution type:
4.44% for commercial banks, 5.03% for development
banks, and a higher 11.06% for finance companies.
 Capital and Liquidity: The Total Capital Adequacy
Ratio is maintained at 12.95%, with a primary capital
ratio of 10.23%. The average Credit-to-Deposit (CD)
ratio is 76.59%, and liquid assets account for 24.92% of
total deposits.

Issues and Challenges of Banking System in Nepal

1. Structural and Regulatory Challenges

 Systemically Important Banks (SIBs): Recent

mergers and acquisitions have created large-scale
institutions with massive capital structures.
Implementing risk-based regulation and supervision
for these systemically important entities is a major
ongoing challenge.
 Interconnectedness and Contagion: Accurately
analyzing the nature of interconnectedness between
financial institutions remains difficult. Problems
 arising in one segment of the financial sector can
easily spread to other areas, threatening overall
stability.
 Outdated Legal Frameworks: There has been a
failure to update financial sector laws in a timely
manner based on global best practices, leading to a
gap between modern needs and regulatory
capabilities.

2. Geographic and Economic Barriers

 Rural Financial Access: Despite physical

expansion, banking services remain centralized and
are often unavailable in rural and remote areas.
 The Informal Economy: The formal banking sector
struggles to displace the informal economy, which
hinders the reach of accessible and formal financial
services.
 Concentrated Credit: Credit access has not
expanded sufficiently across diverse demographics
and remains largely centralized.

3. Deteriorating Asset Quality

 Rising Non-Performing Loans (NPLs): The NPL

ratio has more than doubled compared to the
previous year, now exceeding five percent.
 Increase in Non-Banking Assets: As borrowers fail
to repay loans and real estate transactions slow
down, banks are seeing a significant rise in non-
banking assets.
 Blacklisting Surge: There has been a dramatic
increase in the number of blacklisted borrowers,
rising from around 2,537 in July 2019 to over 132,000
by May 2025.

4. Sluggish Economic Activity and High Liquidity

  Low Credit Demand: Despite having high liquidity,
there is a lack of expected credit investment in the
banking sector.
 Weak Internal Economy: While external indicators
have shown some improvement, internal economic
factors remain sluggish. Aggregate demand and
consumption are low, preventing the economy from
returning to its full rhythm.
 Low Investment Morale: A weak investment
environment persists, partly due to policy instability
and a lack of effective coordination with the private
sector.

5. Technological and Modern Risks

 Cybersecurity and AI Risks: The rapid

development of information technology and Artificial
Intelligence (AI) has introduced new types of security
risks and criminal activities targeting the banking
sector.
 System Vulnerabilities: There is a recognized
failure to regularly upgrade systems in line with
technological changes or to adequately address the
security risks inherent in new electronic systems.
 Skill Gaps: Regulatory bodies and financial
institutions lack the specialized knowledge and skills
required to effectively manage a modernized, digital-
first financial environment.

6. Compliance and External Sector Risks

 FATF Grey List: Nepal has been placed on the

Financial Action Task Force (FATF) "Grey List"
(Countries under Increased Monitoring) due to
weaknesses in implementing anti-money laundering
and counter-terrorist financing (AML/CFT) measures.
 Money Laundering Concerns: There is a sharp
increase in suspicious banking transactions and
illegal activities like cryptocurrency trading.
Solution

1. Sustainable and Inclusive Economic Development

 Support for MSMEs: simplify and facilitate services

for micro, household, small, and medium enterprises
(MSMEs), including the introduction of targeted credit
instruments.
 Targeted Productive Credit: focus credit on
productive sectors like agriculture, energy, and
tourism, while reviewing equitable credit policies and
channelling funds into large infrastructure projects.

2. Financial Access and Inclusion

This strategy aims to bridge the gap between rural and

urban access while formalizing the informal economy.

 Project-Based Credit: Shifting from collateral-

based lending to a project-based credit system
 Digital Modernization: Implementing Open
Banking systems, utilizing Artificial Intelligence (AI)
for customer-friendly transactions, and expanding
online accessible financial services.
 Identity Integration: Linking Know Your Customer
(KYC) records with the National Identity Card to
streamline operations and enhance financial access.

3. Regulatory and Supervisory Reforms

 Microfinance and Non-Banking Regulation:

Establishing a separate regulatory body for
microfinance and another for non-banking institutions
 Supervisory Capacity: Strengthening the Cyber
Security department and enhancing the risk-based
supervision capacity of Nepal Rastra Bank (NRB) staff
through specialized training and lateral entry of
experts is essential.
4. Economic Stimulation and Loan Management

To revitalize a slow economy, the task force suggests

several "relaxation" measures:

 Sectoral Focus: The report suggests expanding

"Priority Sector" lending to include IT, Startups,
Education, and Health, which are currently
underserved.

5. Enhancing Rural Credit and Agriculture

To bridge the urban-rural divide in financial access, the

report suggests:

 "NRB in Rural Areas" Program:

 Financial Mentors: Appointing "Financial Mentors"
(comprising a successful businessman, an NRN, and a
banker) for interested municipalities to identify high-
value agricultural and industrial opportunities.

6. International Compliance (FATF Grey List)

 Grey List Exit Plan: Nepal needs a proactive two-

year timeline to fulfill the Financial Action Task Force
(FATF) action plan removed from the "Grey List".
 Independent FIU: The Financial Information Unit
(FIU) should be developed into a more independent
and robust entity to effectively track suspicious
transactions.
 Real-Time Data Sharing: Enhancing coordination
between the NRB, Nepal Police, and the Office of the
Company Registrar for real-time data access is
crucial for investigating money laundering cases.
Function of Banking Sector

The banking sector plays a pivotal role in the economy by

facilitating financial inter-mediation, which involves
mobilizing savings from surplus units and channeling them
as credit to deficit units for investment.

 Financial Inter-mediation
 Capital Formation
 Allocation of Resources
 Liquidity Provision
 Risk Management
 Encouraging Saving and Investment
 Reducing Transaction Cost

Credit Creation: Facilitating Payment Services: The

sector enables the movement of money through
traditional instruments like cheques and modern digital
channels, including Mobile Banking, RTGS, and IPS. These
systems allow for quick, efficient transactions that reduce
the dependency on physical cash

Trade Finance and Support: Banks facilitate

international and domestic trade by offering specialized
services like Letters of Credit (LC), bank guarantees, and
invoice discounting, which help mitigate risks for
importers and exporters.

Monetary Policy Transmission: The banking system

serves as the primary channel through which the central
bank transmits its monetary policy effects, such as
interest rate changes and money supply control, to the
broader economy.

Risk Management: To maintain financial stability, banks

must manage a wide array of risks, including credit,
liquidity, market, and operational risks, ensuring the
safety of depositors' funds while operating in a high-
leverage environment.

Financial Inclusion and Literacy: Banks are

instrumental in reaching under-served and rural
populations through branch expansion and branch less
banking, while also educating customers on financial
planning and responsible borrowing.

Economic Stabilization and Growth: By providing

liquidity during crises and supporting long-term projects,
the banking sector contributes to capital formation,
employment generation, and the overall stability of the
Gross Domestic Product (GDP).

Insurance Sector

The insurance sector is a key component of the financial

system comprising companies that provide financial
protection against uncertain future risks, losses, or
damages for individuals and businesses.

History of Insurance in Nepal

1. Early Beginnings (Pre-1950s)

Before formal insurance institutions existed, traditional

community-based risk-sharing practices (such as parma
and guthi) served as informal protection systems.
However, modern insurance had not yet taken root.

2. Establishment of the First Nepalese Insurance

Company (1947 AD / 2004 BS)
The first domestic insurance company was founded as
Nepal Malchalani Tatha Beema Company, later renamed
Nepal Insurance Company Limited.

 It was established under the Nepalese Companies Act.

 Ownership was held fully by Nepal Bank Limited.
 The company began as a non-life insurance provider.

3. Formation of the State-Owned Rastriya Beema

Sansthan (1967 AD / 2024 BS)

To expand insurance services, the Government of Nepal

founded Rastriya Beema Sansthan on Poush 1, 2024 BS.

 Initial capital: Rs. 1 crore

 Initially offered non-life insurance
 Began life insurance services from Falgun 7, 2029 BS
 Later brought under the Rastriya Beema Sansthan Act
2025

4. Liberalization and Private Sector Entry (Post-

1990)

With economic liberalization policies in the 1990s, the

insurance market opened to:

 Private domestic companies

 Foreign joint-venture partners

5. Regulatory Strengthening (Insurance Act 2049 &

Beyond)

The Insurance Act 2049 (1992) and subsequent

regulations modernized Nepal’s insurance framework,
defining:

 Licensing procedures
 Operational guidelines
 Consumer protection mechanisms

6. Current Status

As of mid-July 2025 (Asar 2082), the insurance market

consists of 37 insurance companies. Following a series of
mergers and acquisitions aimed at strengthening the
sector, the current breakdown includes:
• Life Insurance Companies: 14
• Non-Life (Private) Insurance Companies: 14
• Micro-insurance Companies: 7
• Reinsurance Companies: 2

The sector has expanded its physical presence to 2,994

branches across the country. Insurance coverage has
reached 48.33% of the total population, a significant
increase achieved through institutional and structural
reforms

Regulatory and Legal Framework

The sector is regulated by the Nepal Insurance Authority
(Nepal Beema Pradhikaran), which is a founding member
of the International Association of Insurance Supervisors
(IAIS). The industry currently operates under the Insurance
Act, 2079, and the Insurance Regulations, 2081. To
manage systemic risks, the Authority has issued
specialized guidelines, including the Risk Management
Guideline and the Solvency Margin Guideline.

Issues and Challenges of Insurance Sector in Nepal

Despite the growth and institutional consolidation of the

insurance sector in Nepal, several deep-rooted issues
and challenges hinder its effectiveness and transparency.

1. Operational and Systemic Challenges

 Paper-based Systems: The sector currently

struggles with a lack of transparency because
 much of the system remains paper-based. This lack
of digitalization makes it difficult to track data and
maintain clear records.
 Lengthy Processes: Both the collection of
premiums and the settlement of claims are
described as lengthy and beneficiary-unfriendly.
 Lack of Alternative Infrastructure: There is a
pressing need for alternative payment systems
for premium collection and distribution, as well as
modernized reporting systems to replace existing
methods.

2. Awareness and Literacy Issues

 Weak Public Awareness: Even after eight decades

of insurance business in the country, public
awareness remains weak.
 Perception of Insurance: Many citizens view
insurance purely as a means of financial
compensation for risks rather than a proactive tool
for risk mitigation and management.
 Educational Gaps: There is a significant need for
insurance literacy programs, particularly for
underserved groups and in rural areas, to explain the
importance and potential of insurance products.

3. Regulatory and Integrity Risks

 Fraudulent Activities: The system faces illegal

practices, such as individuals being insured
multiple times for the same risk and the filing of
fraudulent claims.
 Weak Enforcement Mechanisms: There is
currently no competent mechanism strong enough to
fully identify and control these illegal practices or
ensure institutional integrity across the market.
 Compliance Monitoring: Fully monitoring the
compliance of insurance companies with market
conduct and protecting the rights of the indigenous
and low-income populations remains a significant
regulatory task.

4. Market Reach and Environmental Risks

  Climate Change and Natural Disasters:
Increasing global climate change and natural
disasters pose a growing threat to the stability of the
insurance sector, requiring new types of risk-based
comprehensive policies.
 Inclusion Gaps: Insurance companies have not
been fully successful in reaching rural areas and
low-income groups. Furthermore, some producers
have found it difficult to even enter into insurance
agreements with companies under the current
structure.
 Limited Product Diversification: There is a
challenge in moving beyond traditional products to
offer more specialized instruments like bundled
insurance, index-based micro-insurance, or
environment-friendly tools like green bonds.

Solution

To address the issues in the insurance sector—such as low

public awareness, cumbersome processes, and a lack of
transparency—the sources outline a comprehensive set of
strategies focused on technological modernization,
financial inclusion, and regulatory strengthening.

The proposed solutions to the insurance problem are as

follows:

1. Technological Modernization and Digitalization

A primary solution involves moving away from opaque,

paper-based systems toward digital platforms to increase
transparency and efficiency.

 Simplified Applications: Utilizing technology to

make the insurance application process simple, easy,
reliable, and user-friendly.
 Alternative Systems: Developing alternative
payment systems for the collection of premiums and
the distribution of payouts to reduce existing hurdles.
  Alternative Reporting: Implementing alternative
reporting systems to replace traditional methods,
making data more accessible and reliable.

2. Expanding Financial Access and Inclusion

The sources emphasize reaching rural and low-income

populations who are currently underserved.

 Micro-insurance and Bundled Products:

Introducing micro-insurance, bundled insurance,
and index-based products specifically designed for
low-income households and rural areas.
 Strategic Partnerships: Expanding services
through coordination and partnerships with local
businesses, cooperatives, microfinance institutions,
and community organizations.
 Simplified Products: Developing insurance plans
that use simple language to make them more
accessible to low-income households.

3. Strengthening Consumer Protection and Literacy

To solve the problem of weak public awareness and

mistrust, the sources propose educational and protective
initiatives.

 Insurance Literacy: Integrating insurance

information into school and university curricula
and conducting awareness campaigns targeted at
underserved sectors.
 Beneficiary-Friendly Claims: Strengthening the
claims settlement mechanism to ensure it is
timely, impartial, and easy for beneficiaries to
navigate.
 Grievance Mechanisms: Developing a mechanism
to ensure that insured individuals' grievances are
addressed fairly and in a timely manner.

4. Institutional and Regulatory Strengthening

The sources advocate for a more robust regulatory
framework to ensure stability and control illegal practices
like fraudulent claims.

 Capacity Building: Strengthening the regulatory

capacity of the Nepal Insurance Authority and the
financial capacity of insurance companies.
 International Standards: Adopting and adhering to
international regulatory practices and standards
to maintain sector stability.
 Governance and Integrity: Implementing sound
governance in insurance institutions to increase
transparency and accountability.

5. Product Diversification and Climate Risk

Mitigation

To address modern challenges like climate change, the

strategy includes diversifying the types of insurance
available.

 Risk-Based Policies: Fully implementing risk-based

comprehensive insurance policies to bring global
risks, such as natural disasters, under the scope of
insurance.

Role of Insurance Sector in Economy

The insurance sector is an integral component of the

broader financial system and plays a multifaceted role in
driving economic development and maintaining stability.
In Nepal, it is the second-largest segment of the
financial system behind banks and financial institutions,
contributing 3.67% to the national GDP in recent years.

The role of the insurance sector in the economy is

characterized by the following key functions:

1. Risk Transfer and Financial Stability

The most fundamental role of insurance is acting as a risk

transfer mechanism. It allows individuals and
businesses to transfer the financial burden of
unpredictable losses to insurance companies in exchange
for a premium. By spreading these risks among a large
number of participants, insurance provides a guaranteed
compensation that prevents single events—such as a
fire, medical emergency, or natural disaster—from
resulting in total financial collapse for an entity. This
stabilization effect ensures the continuous functioning of
businesses and maintains public confidence in the
economy.

2. Capital Formation and Saving Habits

Insurance encourages a regular saving habit as

policyholders set aside a portion of their income to pay
premiums over a long horizon. This process mobilizes
domestic savings that might otherwise remain idle,
creating a vast pool of financial resources known as
contractual savings. These long-term funds are
essential for capital formation, providing the necessary
resources to invest in human capital and large-scale
national infrastructure.

3. Investment and Economic Stimulus

Insurance companies act as significant institutional

investors. The premiums they collect are reinvested into
diversified portfolios, including:

 Government Securities: Contributing to public

funding and strategic infrastructure projects.
 Capital Markets: Providing liquidity and vibrancy to
the stock market, which helps private sectors grow.
 Fixed Deposits and Real Estate: Supporting the
banking sector and urban development.

4. Support for Entrepreneurship and Innovation

Insurance gives entrepreneurs the "risk-bearing

capacity" and courage needed to explore new ventures.
Knowing they have a level of financial protection against
uncertain circumstances, businesses can focus on
innovation and expansion rather than hoarding cash for
potential contingencies.

5. Employment Generation

The sector is a major source of direct and indirect

employment. In Nepal, this includes not only the
thousands of employees working directly for the 37
insurance companies but also nearly 300,000 insurance
agents and over 1,200 insurance surveyors.

6. Protection for Key Sectors (Agriculture and

Health)

 Agriculture: Insurance is vital for Nepal’s agrarian

economy, protecting farmers against risks from
weather, pests, and diseases.
 Health: Medical insurance prevents catastrophic
medical expenses that could lead to personal
financial crises, ensuring a healthier and more
economically productive population while reducing
the burden on public emergency resources.

7. Crisis and Disaster Management

Insurance builds macroeconomic resilience against

large-scale shocks, such as the COVID-19 pandemic or the
2015 earthquake. By providing rapid payouts, it allows the
economy to recover more quickly from disasters,
mitigating the need for massive, reactive government
budget reallocations.

Cooperative Sector

Cooperative is a community based, member centered,

democratic, autonomous, and self governing organization
established to develop the economy through mobilizing
and integrating scattered capital, technology and
resources of low income group and marginalized
community or general consumer.

cooperative sector in Nepal, while vital for poverty

alleviation and financial inclusion, faces a complex array
of systemic issues and challenges ranging from
governance failures to severe financial crises. As of Ashar
2082, there are 32,965 cooperative societies in the
country, but the sector is currently grappling with
significant instability.

Role of Cooperative Sector

1. Economic Role of Cooperatives

Cooperatives function as a major vehicle for the national
economy, contributing significantly to the Gross
Domestic Product (GDP) and local financial stability.
Their economic roles include:
a) Poverty Alleviation and Employment: Cooperatives
are described as an "unfailing weapon" for poverty
reduction and economic transformation. They
generate substantial employment and self-
employment opportunities, particularly for youth
and those in rural areas.
b) Resource Mobilization: They effectively mobilize
scattered local savings, capital, skills, and labor,
channeling them into productive investments.
c) Agricultural Productivity and Value Addition: In
the agricultural sector, cooperatives empower farmers
by providing modern technology and processing
facilities. They facilitate value addition to local
products through processing, branding, and
establishing fair supply chains that reduce the
influence of middlemen.
d) Market Regulation: By establishing cooperative
markets and "consumer stores," they ensure that
producers receive a fair price while consumers are
protected from artificial price hikes.
e) Economic Localization: Cooperatives help in the
localization of the economy, fostering strong
economic interrelations between urban and rural areas.
f) Financial Inclusion: Through savings and credit
services, they provide financial access to marginalized
groups who may not have access to traditional
banking.

2. Social Role of Cooperatives

a) Beyond economics, cooperatives serve as a powerful
social movement aimed at fighting inequality and
fostering community cohesion. Their social roles
include:
b) Social Inclusion and Justice: They promote social
inclusion by bringing marginalized and diverse
communities into a shared democratic platform.
c) Women’s Empowerment: Cooperatives are a key
driver for gender justice, with high levels of female
participation in both membership and leadership roles.
d) Building Social Capital: They foster a culture of
mutual help and solidarity, encapsulated in the
philosophy of "Together we are better," which builds
social trust and harmony.
e) Education and Awareness: Cooperatives provide
vocational training, civic education, and health
awareness to their members, enhancing the overall
human capital of the community.
f) Social Security: They often act as a safety net,
providing social security, healthcare support, and
welfare services to members during times of need.
g) Community Development: Cooperatives contribute
to local infrastructure and environment through
activities like tree planting, health camps, and
sanitation programs.
h) Conflict Resolution: By providing a collaborative
platform, they help in resolving social conflicts and
reducing social hierarchies.
i) In summary, cooperatives fulfill their dual role by
ensuring that economic progress is accompanied by
social equity and community well-being

The cooperative sector holds a profound ethical and

spiritual role in society, extending far beyond simple
economic transactions to foster a sustainable and
responsible community.

3. Ethical Foundations

The ethical role of cooperatives is centered on fairness,

honesty, and social responsibility. The sources
highlight several key ethical principles that cooperatives
promote:
a) Fair Distribution: Cooperatives advocate for treating
individuals based on need, effort, contribution, and
merit, ensuring that everyone receives a fair and
humane share.
b) Shared Empathy: Cooperatives operate on the
spiritual understanding that "If one part suffers, all
the parts suffer with it; if one part is honored, all
the parts share the joy".
c) Self-Discipline and Consciousness: The sector
works to develop self-consciousness and self-
discipline within individuals, encouraging them to be
responsible and honest toward others.
d) Work as Service: There is a spiritual realization
promoted within the movement that "working to
make the world simple and better is a service to
God".
e) Unity of Soul and Action: The philosophy of
cooperation suggests that love unites work and the
soul, leading to more meaningful and positive social
reproduction.

Issues and Challenges in Cooperative Sector

The following are the key issues and challenges

1. Governance and Ethical Challenges

 Disregard for Principles: There is widespread

negligence in following core cooperative values,
principles, and professional ethics.
 Management Malpractice: Management is often
influenced by limited interest groups rather than
being member-centric. Some cooperatives have been
found holding fake General Meetings or failing to
hold them for long periods.
 Conflict of Interest: Directors frequently utilize
unlimited monetary or non-monetary facilities and
use institutional advances without a clear purpose.
There are also instances of institutions investing
directly in the private companies of directors or their
families.

2. Operational and Management Issues

  Unauthorized Transactions: Many cooperatives
conduct financial transactions with non-members
and operate outside their specified geographical
working areas.
 Loan Concentration: A major challenge is the
concentration of loans in risky sectors, particularly
real estate, and providing loans to limited
individuals in an untransparent manner.
 Weak Internal Systems: Most cooperatives suffer
from weak internal control systems and inadequate
risk management frameworks.
 Literacy Gaps: There is a significant lack of
cooperative literacy among members, directors, and
employees, which contributes to poor decision-
making.

3. Financial Risks and Fraud

 Savings Misuse and Fraud: The misuse of

members' savings and outright fraud by
management is a critical issue. Currently,
approximately 800 directors are in custody for
fraud, and many others have fled the country.
 Liquidity and Solvency: The sector faces a severe
liquidity crisis and an increase in non-earning and
non-banking assets. The inability to recover
outstanding loans due to economic slowdowns has
further heightened financial risks.
 Systemic Risk: It is estimated that 87 billion NPR
in deposits across 40 cooperatives is at risk,
affecting the savings of 1.5 million people in 357
cooperatives.
 Money Laundering: Lack of transparency and good
governance has increased the risk of cooperatives
being used for money laundering. This has been cited
as a reason for Nepal's potential inclusion in
international financial "Grey Lists".

4. Regulatory and Structural Obstacles

 Regulatory Weakness: Supervisory bodies lack the

necessary institutional capacity to effectively monitor
the vast number of cooperatives. In the federal
 system, regulatory responsibilities are divided among
federal, provincial, and local levels, making a unified
oversight mechanism difficult to implement.
 Data and Transparency: There is a severe lack of
an accurate, integrated data mechanism (like
COPOMIS) to track the financial health of
cooperatives nationwide.
 Unhealthy Competition: Cooperatives have often
been registered without proper feasibility studies,
leading to overcrowding and unhealthy competition
in the market.

Current Reform Measures

To address these challenges, the government has

proposed several interventions in its 2082 action plan:

 Stopping new registrations and branch

expansions temporarily.
 Freezing the passports and assets of directors and
debtors associated with "problematic" cooperatives.
 Mandating that only natural persons (not
companies) can be members of cooperatives.
 Limiting the working area of a savings and credit
cooperative to a single local unit.
 Implementing a Single Borrower Limit (maximum
10% of total share capital).

The primary solutions and reforms for savings and credit

cooperatives are as follows:

1. Regulatory and Structural Reforms

 Establishment of NCRA: A major reform is the

establishment of the National Cooperative
Regulatory Authority (NCRA) as a separate,
 specialized body for the regulation and supervision of
financial cooperatives. This aims to create a "one-
window" system for oversight.
 Enhanced NRB Oversight: Under recent legal
amendments, Nepal Rastra Bank (NRB) now has
the authority to directly regulate and supervise
cooperatives with share capital over 500 million
NPR or equivalent annual turnover.
 Integrated Data Management (COPOMIS):
Making the Cooperative and Poverty
Management Information System (COPOMIS)
mandatory for all cooperatives to ensure accurate,
real-time data on their financial health.
 Specialized Recovery Mechanisms: The sources
propose activating a Debt Settlement Tribunal
and the Problematic Cooperative Management
Committee (PCMC) to recover outstanding loans
and settle liabilities.

2. Financial and Operational Restrictions

 Membership and Working Area: Membership is to

be restricted to natural persons (excluding
companies), and the geographical working area of a
savings and credit cooperative is limited to a single
local unit.
 Single Borrower and Investment Limits:
Implementation of a Single Borrower Limit
(maximum 10% of total share capital) and a sectoral
investment cap where no more than 25% of total
loans can be in a single sector.
 Liquidity and Standards: Cooperatives must
maintain a maximum Loan-to-Deposit ratio of
90%. The sources also recommend adopting
international financial standards like the PEARLS
system and Member Center Standards (MCI).
 Asset Use Restrictions: Cooperatives are
prohibited from purchasing land for resale; they may
only provide land purchase loans for a member's
primary home construction (up to 1,000 square
meters).

3. Governance and Depositor Protection

  Savings Protection Fund: The establishment of a
Savings Protection Fund is proposed to secure
members' deposits in the event of institutional
failure.
 Credit Information Center: Creating a dedicated
Credit Information Center for cooperatives to
prevent multiple borrowings and track defaulters.
 Liability Settlement: Authorizing the sale of
movable and immovable assets belonging to the
directors and legal relatives of "problematic"
cooperatives to return depositors' money.
 Travel and Asset Restrictions: Freezing the
passports and assets of directors and major
debtors associated with distressed cooperatives.

4. Long-term Strategic Measures

 Moratorium on New Registrations: A temporary

stop on new cooperative registrations and
branch expansions has been implemented to allow
for sector consolidation.
 Merger Incentives: Encouraging the merger and
division of cooperatives based on clear financial
and governance criteria to reduce the excessive
number of institutions.
 Mandatory Training: Requiring that directors,
managers, and employees complete specific
cooperative-related training (minimum 10 days)
and including cooperative education in school and
university curricula.
 Unified Information Sharing: Developing a system
for the exchange of information and data
between the Department of Cooperatives, NRB, and
other financial regulators.

An Introduction to Financial Markets

Financial markets is a marketplace, where creation and

trading of financial assets like shares, debentures, bonds,
derivatives, currencies and so forth takes place. It plays
very important role in allocating scarce resources in the
economy of the country. The financial markets can be
broadly classified into (i) money markets and (ii) capital
markets as in figure 1.

Financial Market

Capital Market Money Market

Non Securities Securities

Market Market

Secondary
Primary Market
Market

Stock Exchange
OTC Market Auction Market
Market

Money Market
Money market is a segment of market that deals with
transaction of securities having the maturity less than 1
year.
Money markets is a market for debt securities that pay off
in the short-term usually less than one year, for instance,
the market for 90-days treasury bills. This market
encompasses the issuance and trading of short-term non-
equity debt instruments including treasury bills,
commercial papers, bankers’ acceptance, certificates of
deposits, etc.

Fuctions of Money Market

 Liquidity Management
 Efficient Allocation of Fund
 Monetary Policy Implementation
 Working Capital Management
 Risk Diversification
 Facilitate Trade and Industry
Money Market Instruments

1. Repo(Repurchase Agreement)
2. Treasury Bills
3. Certificate of Deposits
4. Commerical Paper
5. Banker’s Acceptance

Difference Between Money Market and Capital

Market

1. Maturity
2. Default Risk
3. Return
4. Liquid
5. Purpose
6. Regulation
7. Instruments

Difference between Primary and Secondary Market

1) Definition
2) Purpose
3) Frequency of Transaction
4) Transfer of Funds
5) Price Determination
6) Intermediaries
7) Example
Non Banking Financial Sector

The non-banking financial sector in Nepal is a critical

component of the national financial system, operating
alongside the banking, insurance, capital market, and
cooperative sectors. These institutions primarily facilitate
long-term savings mobilization, investment in large-scale
projects, and social security provision.

Major Institutions and Origins

The non-banking sector is characterized by institutions

often established through special legislative acts. The
most prominent entities include:

 Employees' Provident Fund (EPF): Established in

BS 2019, it is the oldest major non-banking
institution, managing savings and providing loan
facilities for both government and non-government
employees.
 Citizens' Investment Trust (CIT): A major
investment vehicle that manages various schemes,
including retirement contributions and insurance
funds. As of Asar 2082, it serves over 7.61 lakh
investors.
 Social Security Fund (SSF): A more recent
institution established to manage contribution-based
social security programs, including medical
treatment, disability protection, and welfare for
workers.
 Other Entities: The sector also includes specialized
institutions like the Hydroelectricity Investment
and Development Company Limited (HIDCL), as
well as remittance companies and payment
service providers.

Economic Role and Performance

These institutions serve as significant institutional

investors in Nepal’s economy.

 Investment and Lending: They provide loans to

individuals in the government and private sectors
 and invest heavily in infrastructure projects, the
capital market, and various financial instruments.
For instance, by Asar 2081/82, the Citizens'
Investment Trust had invested approximately Rs.
118 million in various instruments.
 Social Protection: They are central to providing
social safety nets, with programs covering accident
compensation, job creation, and medical care for
contributors.
 Capital Market Participation: Some institutions
have expanded their scope; for example, the CIT
established a stock dealer company to participate
directly in the securities market.

Current Issues and Challenges

Despite their importance, the sources identify several

systemic challenges:

 Functional Duplication: There is a notable duality

and overlap in the functions and scopes of the EPF,
CIT, and SSF, leading to inefficiency.
 Limited Investment Avenues: The sector faces a
lack of long-term investment instruments,
which restricts the ability to fund large-scale public-
private partnership projects.
 Informal Sector Inclusion: Bringing workers from
the informal sector and self-employed individuals
into the social security net remains a major hurdle.
 Transparency and Governance: Maintaining
institutional integrity and ensuring transparency in
long-term operations are ongoing challenges.

Future Strategic Direction

Under the Second Financial Sector Development

Strategy (2082/83–2086/87), the government aims to
modernize and integrate the sector. Key strategies
include:

 Unified System: Developing an integrated social

security system and consolidating laws to avoid
duplication between the major funds.
  Diversified Portfolios: Expanding investment into
new areas such as private equity funds, equity
funds, and community-based housing projects.
 Digital Transformation: Implementing a single
portal for all services—including insurance,
pensions, and loans—to provide more efficient,
technology-driven service delivery.
 Regulatory Strengthening: Creating a more robust
institutional mechanism for the regulation and
supervision of non-banking financial institutions to
ensure financial stability.

Capital Market

Capital market is a segment of market that delas with

transaction of securities having the maturity more than 1
year.

In this market, the capital funds comprising both equity

and debt, are issued and traded. This includes both
private placement sources of debt and equity as well as
organized markets like stock exchanges.

Role of Capital Market in Economy

The capital market serves as a vital pillar of a modern

financial system by facilitating the movement of medium
and long-term funds (maturities exceeding one year)
from those with surplus capital to those in need of it. It
acts as a bridge between individual savers and the
productive sectors of the economy, ensuring that idle
money is transformed into active investment.

According to the sources, the role of the capital market in

the economy is characterized by several key functions:

1. Resource Mobilization and Capital Formation

The primary function of the capital market is to gather

scattered savings from households and other segments
of society and allocate them to productive usage such as
manufacturing, trade, and commerce. By encouraging
savings habits and mobilizing these resources, the market
fosters capital formation, which is essential for
increasing the nation’s productive capacity and driving
long-term economic growth.

2. Driving Economic Growth and Development

A well-functioning capital market is considered a

barometer of economic development. It supports the
national economy by:

 Funding Industrial Expansion: It provides the

necessary long-term capital for corporate bodies and
industrial enterprises to explore new ideas and
expand operations.
 Supporting Strategic Sectors: It supplies funds for
vital sectors such as energy, tourism, and
infrastructure, often at a lower cost than traditional
bank financing.
 Inclusive Development: In developing countries
like Nepal, it promotes private sector
development and helps small and medium
enterprises (SMEs) access equity financing for
sustainable growth.

3. Financing Government and National Priorities

The capital market is an essential mechanism for public

debt management. Governments utilize the market to
issue treasury bills and bonds to raise domestic debt
for national development projects. It allows for the
mobilization of public debt into priority areas without
placing undue restrictions on private sector investment or
creating excessive inflationary pressure.

4. Enhancing Market Efficiency and Liquidity

The capital market provides a structured environment that

enhances the overall health of the financial system:

 Price Discovery: Through the trading of stocks and

bonds, the market establishes fair values for financial
 assets, reflecting the actual performance of
companies and the economy.
 Liquidity: It offers investors a platform to buy and
sell securities easily, ensuring that their investments
can be converted back into cash when needed.
 Market Stabilization: Certain instruments, such as
mutual funds, act as stabilizers by providing
additional liquidity during periods of low trading
volume.

5. Risk Management and Financial Innovation

Modern capital markets provide tools for managing

financial risks. Through derivatives (such as futures and
options), businesses and investors can hedge against
fluctuations in interest rates, currency values, and
commodity prices. Furthermore, the rise of green bonds
in the capital market allows for the direction of funds
toward environmentally sustainable and climate-friendly
projects.

6. Social and Wealth Distribution Impacts

Beyond purely financial metrics, the capital market has

significant socio-economic roles:

 Employment Generation: By fueling industrial and

business growth, the market directly and indirectly
creates new job opportunities.
 Wealth and Retirement Planning: As more retail
investors participate in mutual funds and collective
investments, the capital market becomes central to
individual wealth creation and retirement
security.
 Financial Inclusion: It democratizes investment
opportunities, allowing general citizens to participate
in the ownership and success of major companies.

 Promoting Savings and Investments: Capital

markets are important for savings, mobilizations and
investments through the provision of many types of
financial instruments. This has led to higher savings
that get reinvested into business operations,
 expansion, infrastructure, and ultimately in the creation
of employment.

Issues and Challenges of Capital Market in Nepal

The Nepal capital market is currently in a nascent and

under-developed stage, facing a wide array of structural,
regulatory, and technological hurdles. Despite rapid
growth in the number of investors, it remains volatile and
lacks the depth found in advanced economies.

The major issues and challenges identified in the sources

include:

1. Structural and Market Design Challenges

Dominance of BFIs: The market is heavily tilted toward

Banks and Financial Institutions (BFIs) and insurance
companies, which account for approximately 72.1% of
total market capitalization. This creates a "double-edged
sword" where any distress in the banking sector
immediately destabilizes the entire capital market.

One-Sided Market (Lack of Short-Selling): Nepal’s

market currently only allows "long" positions, meaning
investors can only profit when prices rise. The absence of
short-selling leaves investors helpless during downturns,
which often results in frustration, panic-selling, and even
public strikes.

Underdeveloped Debt and Derivative Markets: The

secondary market for government and corporate bonds is
virtually absent. Similarly, derivative instruments like
futures, options, and swaps are either non-existent or in
an infant stage, leaving investors without necessary risk-
management tools.

Missing Institutional Participation: Individual retail

investors dominate the market (up to 99% in some
estimations), making it highly prone to rumors and
extreme volatility. There is a lack of institutional investors,
such as stock dealers, to help stabilize prices.
2. Market Malpractices and Governance Issues

Rooted Insider Trading: Insider trading is described as

a "virus" in the Nepalese market. It is facilitated by
structural loopholes, such as officials trading in the names
of relatives, and a general lack of investigative power for
regulators to access phone records or wiretap suspects.

Information Asymmetry: Market crashes often occur

because "insiders" possess exclusive information, putting
less-informed retail investors at a significant
disadvantage.

Window Dressing and Disclosure Lapses: There is a

high likelihood of "window dressing" in financial reports.
Many listed companies frequently violate legal provisions
by failing to publish quarterly or annual reports on time.

Speculative Bubbles: Sectors with a small number of

listed shares, such as microfinance and insurance, are
highly prone to artificial price hikes and speculative
bubbles.

3. Regulatory and Institutional Hurdles

Weak Enforcement: Archivable data shows that the

Securities Board of Nepal (SEBON) has concluded only one
case of insider trading, reflecting weak enforcement and
lengthy legal processes.

Lack of Coordination: There is a lack of structured data-

sharing and functional coordination between major
regulators like the Nepal Rastra Bank (NRB), SEBON, and
the Nepal Insurance Authority.

Resource and Expertise Gaps: Regulatory bodies and

market participants face a shortage of skilled human
resources, specifically in areas like forensic auditing, risk
modeling, and advanced technology management.

4. Technical and Infrastructure Constraints

Lack of a Central Counterparty (CCP): Nepal lacks a
CCP to act as a guarantor for settlements, which creates
systemic exposure during times of high market volatility.

Broken System Integration: Platforms for trade

execution (TMS), settlement, and fund reconciliation are
only partially integrated, leading to downtime and delays
during busy periods like IPO subscriptions.

Cybersecurity Risks: As digital data collection increases,

the lack of intrinsic cybersecurity audit processes and
response teams leaves the infrastructure vulnerable to
breaches and phishing.

5. Investor Awareness and Behavioral Challenges

Low Financial Literacy: A large portion of the population

lacks basic knowledge of risk-return tradeoffs. This leads
to herd behavior (following the crowd) and irrational risk-
taking, such as borrowing loans to invest when the index
is at a peak.

Psychological Biases: Investors frequently suffer from

overconfidence bias and loss aversion, which leads to
holding onto losing stocks for too long or making impulsive
emotional decisions.

Analogy: The Nepalese capital market is like a one-way

road (no short-selling) where almost everyone is driving
the same type of car (BFI stocks). Because there are no
traffic cameras (weak surveillance) and the bridge is half-
built (no CCP/broken integration), any rumor of a landslide
causes a panic-driven pileup (market crash). Many drivers
on this road don't have a license (low financial literacy)
and simply follow the car in front of them, while a few
"insiders" have a secret map of the shortcuts, leaving
the rest of the drivers at risk.
Securities Markets
Securities markets is a market for securities (equity, debt
and unit), where business enterprises (companies) and
Governments can raise long-term funds for the initiation
and expansion of business. It is defined as a market in
which money is provided for periods longer than a year
(raising of short-term funds takes place on other markets
like the money market). Financial regulators, such as
SEBON regulates and oversee the securities markets in its
designated jurisdictions to ensure an orderly development
of the markets and protection of investors.

Risk Associated with the Securities Markets

One should always keep in mind that investment in
securities markets is not risk free. Securities markets risk
usually defines the risk involved in the investments. The
stark potential of experiencing losses following a
fluctuation in the securities prices is the reason behind the
capital market risk.
Systematic Risk
Securities market risk, which is not diversifiable, is
typically known as systematic risk. Systematic risk is
common to the entire class of liabilities or assets.
Depending on economic changes, the value of
investments can fall enormously. There may be some
other financial events also impacting the investment
markets. In order to check securities market risk,
allocation would be fruitful.
The element of risk is what distinguishes an investment
from savings. Investment in stocks (shares) or bonds
normally comes with the types of risks are (i) Market Risk,
(ii) Industry Risk, (iii) Business Risk, and (iv) Regulatory
Risk

1. Market Risk
It is the overall risk involved in capital market
investments. The stock market rises and falls depending
on a number of factors. The collective view of the
investors to invest in a particular stock or bond plays a
significant role in the stock market rise and fall. Even if the
company is going through a bad phase, the stock price
may go up due to a rising stock market while conversely,
the stock price may fall because the market is not steady
even if the company is doing well.

2. Industry Risk
It may arise from the market forces and regulations
relating to a given industry. Thus, all stocks within an
industry would be affected by industry related factors.
Regulatory Risk are risks arising out of changes in
regulations and laws, either specific to the
company/industry or the country as a whole.

3. Business Risk
It may affect the investors if the company goes through
some changes in management, strategies, market share
and labor force. It is important for investors to realise that
returns on equities can be cyclical and that the market will
move in both directions.

4. Regulatory Risk
It is generally defined as the risk of having the ‘license to
operate’ withdrawn by a regulator, or having conditions
applied (retrospectively or prospectively) that adversely
impacts the economic value of an enterprise. Regulatory
Risk are risks arising out of changes in regulations and
laws, either specific to the company/ industry or the
country as a whole.

Historical Development of Securities Markets

History of global capital markets dates back to 1602 AD
when a stock exchange was established in Amsterdam,
Netherlands and shares of Dutch East India Company were
traded initially.

Development of Securities Market in Nepal

 In Nepal, for the very first time Nepal Bank Ltd and
Biratnagar Jute Mills issued shares to public in 1937
 SEBON was established by Government of Nepal on
June 7, 1993 as an apex regulatory body of Securities
Markets

 Secondary market got momentum formally only in

1976 after establishment of Securities Marketing
Center and then separation of regulation and market
operation with the establishment of Securities Board as
regulator and exchange as secondary market operator.
The separate exchange was made with the conversion
of Securities Marketing Center into Nepal Stock
Exchange Ltd. in 1993

 Primary issues made by foreign joint venture banks in

the early 1983 such as Nabil Bank Ltd. (erstwhile Nepal
Arab Bank Ltd.), Standard Chartered Bank Ltd.
(erstwhile Nepal Grindlays Bank Ltd.) and Nepal
Investment Bank Ltd. (formally Nepal Indosuez Bank
Ltd.) were remarkably taken by the market back then.

 Licenses were issued to stockbrokers in 1994

 Issue and Sales Managers and few Mutual Funds in the

decades of 1990s

 Automated computerised trading system (ATS) in 2007,

start of real time surveillance system, circuit breaker
practice.

 CDS and Clearing Ltd. was established on 22 December

2010 as central depository system of securities

 Credit rating Company ICRA Nepal Ltd. was established

in 11 November 2011 as joint venture with ICRA Ltd.

 Dematerialisation of securities has been made

compulsory through DP along with demat account
which has aided in full automation of secondary market
on 15 January 2016.
 Centralised application supported by blocked amount
(C-ASBA) has begun from 14 January 2017 optionally
and it was made compulsory from 16 July 2017 .

 Online trading of securities has begun on 6 November

2018.

Non-Securities Markets
Non-Securities are the alternative investment that is not traded on the
public exchange as stock and bond. Non-securities are also non as real
assets. Assets such as gold, diamond, art, rare coin all are non-security.

Capital Market Instruments

1. Shares

Common stock (or common shares) represents the

fundamental units of corporate ownership, providing
shareholders the voting rights to elect the board of
directors and potential financial returns through dividends
or capital appreciation offering higher potential returns
but carrying greater risk due to having the lowest and
residual claim on assets during liquidation.

Fund raised by issuing common stock are used to finance

major portion of firm’s fixed assets such as land &
building, plant and machinery.
Features

1) Par Value
2) Maturity
3) Residual Claim on Income and Assets
4) Voting Right
5) Preemptive Right
6) Limited Liability

Rights and Privileges of Common Shareholders

Shareholders or Investors are considered to be the real
owners of a company. They are the source of capital
required to mobilize via capital market. They benefit,
through dividends and capital appreciation, and wealth
maximum when the company performs well. On the other
hand, they equally carry the risk of losing part or fully
their investment to the extent of their investment if the
company performs badly and goes for liquidation.

1. Major Rights of Shareholders entrusted by

Securities Related Act, 2006 and Company Act,
2006 are as under

 To participate in the public issue of securities,

 To receive the shares on allotment or purchase within
the stipulated time and to be refunded his money back
within the stipulated time in case of not allotted,
 To receive dividends in due time once approved in
general meetings
 To receive corporate benefits like rights, bonus, etc.
once approved. To receive offer in case of takeover,
delisting or buyback though buyback is not allowed in
Nepal
 To receive the residual proceeds in case of winding up.

2. Participation and Vote in AGM

To participate and vote in Annual general meetings (AGM)
and enjoy voting right. (be entitled to attend the general
meeting and cast votes at the rate of one vote for each
share held by him)
[Link] in the Minutes
In the case of a company which has no company
secretary, the minutes shall be signed by the Chairperson
of the meeting concerned and by a representative of
shareholders appointed by a majority of the general
meeting

[Link] a Matter for Discussion and Decision

If the shareholder or shareholders representing at least
five per cent of the total number of votes shall so desire,
he/they may, by submitting an application to the directors
prior the issue of a notice under Subsection (2) of Section
67, cause any matter to be presented at the annual
general meeting for discussion and decision

[Link] to Get Annual Financial Statement

If any shareholder makes a request for a copy of the
annual financial statement, directors’ report and auditor’s
report as referred to in Sub-section (3), the company shall
provide a copy of such reports or statements to such
shareholder.

Common Stock Valuation

1. Zero Growth Model

2. Constant Growth Model
3. Non Constant Growth Model
4. Price Earning Model

Bond

A bond is a fixed-income investment representing a loan

made by an investor to a borrower, typically a corporation
or government, to raise capital. The borrower promise to
to pay fixed sum of interest for specified period of time
and the principle at the time of maturity.

In the context of Nepal, there is little transaction of bonds

in the secondary market. Development of bond market is
very essential for the development of the securities
markets. Investment in the bond or debenture is relatively
safe because return in it is fixed. So, it is also called fixed
income instrument.

Key Characteristics of Bond

1) Par Value(Usually Rs 1000)

2) Coupon interest rate
3) Maturity
4) Indenture
5) Call Provision
6) Trustee

Types of Bond

Bond can be of different types such as

a) a bond with out specified maturity period is perpetual

bond
b) a bond without any coupon interest and sold at
substantial discount is zero coupon
c) bond
d) a bond with specified coupon interest with a finite
maturity is a regular bond or coupon bond
e) a bond selling at below its par value is discount bond
and
f) a bond setting at above its par value is premium bond
Types of Corporate Bond

1. Secured Bond

a) Mortgage bond against pledged assets

b) Collateral trust bond aginst personal property
c) Equipment trust bond against cash flow of equipment
d) Guaranteed bond against obligation guaranteed by
other

2. Unsecured Bond: Unsecured bond are called

debenture. Many corporate such as commercial banks and
some finance companies, particularly listed companies,
issue debenture with fixed maturity periods.

3. Convertible Bond: can be converted into number of

common stock
4. Exhangible Bond: Can be exchanged with number of
common stock
5. Bond with warrant: Warrant is a long term option that
gives the holder right to purchase a specified number of
shares at specified price
6. Income bond: pay the interest only when firm earn
income
7. Zero coupon Bond: that pay no interest but sold at
discount
8. Floating rate bond: whose interest rate fluctuates
9. Junk Bond: High risk bond
10. Callable Bond: that can be called before maturity
11. Putable bond: that can be exchanged with cash

On the other hand, Nepal Government have been issuing

different types of bonds to finance the budget.

1. Development Bond
2. National saving Bond
3. Citizen saving Bond
4. Foreign Employment Bond
5. Special Bond
6. Municipal Bond
The Risk Faced by Investors in Bond

An investor who purchases bonds faces risks from a

variety of sources such as (i) inflation risk, (ii) default risk,
(iii) liquidity risk, and (iv) interest rate risk.

Interest Rate Risk

It is also called Price Risk. The market price of a bond is

inversely proportional to the level of interest rates. When
interest rates fall, bond prices increase and conversely
when interest rates rise, bond prices decrease. As interest
rates fluctuate randomly in the economy, the bond will
experience random price movements. This random
variation in price is termed price risk. Bond investors
therefore experience price gains when interest rates fall
and suffer price losses when interest rates rise.

Inflation Risk

It is related to the concept of interest rate risk discussed

above. As inflation increases so do interest rates, which
then affects bond prices. While most financial assets are
influenced by inflation, bonds are affected most severely.

Liquidity Risk

A liquid security market is where an investor is able to sell

a security at short notice without having to offer a
substantial price discount A market for securities that are
actively traded tend to be liquid Bond markets, especially
corporate bond markets tend to be thin with infrequent
trading. Bondholders wishing to sell in such markets may
have to offer a price discount and therefore suffer a loss to
attract buyers
Default Risk

It is risk when a corporation that borrows funds by issuing

bonds is unable to make the promised interest and
principal payments, the bond is, said to be in default. The
likelihood that a bondholder may lose his money through
such non-payment is termed default risk. While
government bonds do not suffer from this problem
(because they can ultimately increase taxes or simply
print money to repay the bonds), all corporate bonds have
some amount of default risk, albeit in varying degrees.
Assessing the likelihood of default is not an easy task as it
requires a thorough analysis of the financial performance
of the borrowing company. Credit rating of company and
bond is very important to know the risk factor in such
case.

Bond vs Debenture

Bond and debenture sounds like the same and has been
used interchangeably. Though there is a slight difference
between these two terms.

Normally debentures are issued and purchased only on

the creditworthiness and reputation of the company or
issuing company. It is not secured by any sort of the
physical assets or collateral. Bonds are normally backed
by the asset of the issuer. So, the debenture is considered
to be slightly riskier than the bond often pushing the
interest (coupon) rate comparatively higher than of bond.
Financial Derivatives

Financial Derivatives is an agreement between two parties

to exchange an assets or cash flow at a predetermined
price and at a specific date in future. The value of
derivative changes when the value of underlying assets
changes.

The term Derivative has been defined in Securities

Contracts (Regulations) Act, as:-

(a) a security derived from a debt instrument, share, loan,

whether secured or unsecured, risk instrument or contract
for differences or any other form of security;

(b) a contract which derives its value from the prices, or

index of prices, of underlying securities;

Derivatives are financial contracts which derive their value

from movements in the spot price of an underlying asset.
For example, wheat farmers may wish to enter into a
contract to sell their harvest at a future date to eliminate
the risk of a change in prices by that date.

Such a transaction would take place through a forward or futures market.

This market is the “derivatives market”, and the prices of this market
would be driven by the spot market price of wheat which is the
“underlying”. The term “contracts” is often applied to denote the specific
traded instrument, whether it is a derivative contract in wheat, gold or
equity shares.
The most important contract types are futures and options, and
the most important underlying markets are equity, treasury bills,
commodities, foreign exchange, real estate etc.

Features
1. Two Parties
2. Underlying Assets
3. Future Transaction
4. Exercise Price
5. Rights and Obligations
6. Zero Sum Game
7. Nominal Amount
8. Minimal Initial Investment

Types of Derivatives

Derivatives are usually broadly categorised by the:

1. On the basis of relationship between the underlying and the derivative

(e.g. forward, future, option, swap)

a) Forward
The forward contract is an agreement between two parties
to buy or sell the underlying assets at a specific time in
the future for a specified price determined today.

b) Futures
A futures contract is a legally binding or
organized/standardized agreement between two
parties to buy or sell an asset at a certain time in the
future at a certain price.

Future contracts are organized/standardized contracts in

terms of quantity, quality (in case of commodities),
delivery time and place for settlement on any date in
future.
The contract expires on a pre-specified date which is
called the expiry date of the contract. On expiry, futures
can be settled by delivery of the underlying asset or cash.
Cash settlement enables the settlements of obligations
arising out of the future/ option contract in cash.

Difference between Forward and Futures

Futures markets were designed to solve all the three
problems of forward markets. Futures markets are exactly
like forward markets in terms of basic economics.
However, contracts are standardized and trading is
centralized (on a stock exchange). There is no counter
party risk (thanks to the institution of a clearing
corporation which becomes counter party to both sides of
each transaction and guarantees the trade). In futures
markets, unlike in forward markets, increasing the time to
expiration does not increase the counter party risk.
Futures markets are highly liquid as compared to the
forward markets.
1. Meaning
2. Trading Platform
3. Regulation
4. Settlement
5. Luquidity
6. Risk
7. Trading
c) Option Contract
Option contract is a type of derivatives contract which
gives the right, but not an obligation, to buy or sell the
underlying at a stated date and at a stated price.

Call and put options are financial derivatives providing the

right—but not the obligation—to buy (call) or sell (put) an
asset at a set price before a specific date, with costs
(premium) and risks capped for buyers. Calls are bullish,
profiting when prices rise, while puts are bearish, profiting
when prices fall.

“Calls” give the buyer the right but not the obligation to
buy a given quantity of the underlying asset, at a given
price on or before a given future date.
“Puts” give the buyer the right, but not the obligation to
sell a given quantity of underlying asset at a given price
on or before a given future date.

American options are options contracts that can be

exercised at any time upto the expiration date.

European options are options that can be exercised only

on the expiration date.

d) Swaps
Swap is a contract in which two parties agree to exhange cash flows over
the period of time in future.
Types of Swaps
1. Interest rate swap
2. Currency Swap
3. Equity Swap
4. Credit default Swap
5. Commodity Swap

2. On the basis of type of underlying (e.g. equity derivatives, foreign

exchange derivatives, interest rate derivatives, commodity derivatives or
credit derivatives)

3. On the basis of market in which they trade (e.g., exchange traded or

over-thecounter)
4. On the basis pay-off profile (Some derivatives have non-linear payoff
diagrams due to embedded optionality) • There is no definitive rule for
distinguishing one from the other, so the distinction is mostly a matter of
custom.

Why should an investor use derivatives?

1) Provide leverage or gearing, such that a small movement in the

underlying value can cause a large difference in the value of the
derivative.
2) Since the investor is required to pay a small fraction of the value of
the total contract as margin, trading in futures is a leveraged activity
since the investor is able to control the total value of the contract with
a relatively small amount of margin. Thus the leverage enables the
investors to make a larger profit (or loss) with a comparatively small
amount of capital
3) speculate and to make a profit if the value of the underlying asset
moves the way they expect (e.g. moves in a given direction, stays in
or out of a specified range, reaches a certain level)

4) hedge or mitigate risk in the underlying, by entering into a derivative

contract whose value moves in the opposite direction to their
underlying position and cancels part or all of it out

5) obtain exposure to underlying where it is not possible to trade in the

underlying (e.g. weather derivatives)

6) create optionality where the value of the derivative is linked to a

specific condition or event (e.g. the underlying reaching a specific
price level)

7) Derivatives are the primary means for determining the spot price of as
assets facilitating price discovery

8) Society get the benefit pf price discovery because the price of the
underlying assets accurately reflect the true economic value.

9) Arbitrager buy the goods at lower price at one place and sell at higher
price in another place

Risk of Derivatives

1. Risk of Losing Money – Derivatives can lead to significant financial

losses, not just profits.
2. Loss Due to Price Fluctuations – Changes in market prices can
cause one party to lose potential gains.

 If prices rise, the seller may lose out on higher profits.

 If prices fall, the buyer may still have to pay a higher agreed price.

3. Opportunity Loss – Entering into a fixed-price contract may prevent

investors from benefiting from favorable market movements.
4. Market Risk – The value of derivatives depends on the price of
underlying assets, which can fluctuate unpredictably.
5. No Guarantee of Profits – There is no assurance that trading in
derivatives will generate profit.
6. Possibility of Heavy Losses – Investors may incur substantial losses
while executing derivative contracts.
7. Unsuitability for Certain Investors – Derivatives may not be
appropriate for:

 Investors with limited financial resources

 Those with limited investment or trading experience
 Individuals with low risk tolerance

8. Financial Condition Risk – Investors must assess whether

derivatives trading suits their financial situation.
9. Need for Risk Awareness – Failure to read and understand the Risk
Disclosure Document may expose investors to risks they are unaware of.
10. Risk of Speculation
11. Counter Party Risk