Understand What is Securities Lending in Share Trading – Rate, Risks, Example.
Understand what is Securities Lending in Share Trading with Rate, Risks and Example.
What is Securities Lending in Stock Market?
Securities lending program is from the NSE. It is similar to the Badla System from the BSE.
Difference between Badla System and Securities Lending is that the carry forward system is not being allowed by the NSE.
Under the securities lending system, holder of securities or their agent lends eligible securities to borrowers in return for a fee to cover short positions.
- Also Read: What is Short in Share Trading?
Security Lending and Borrowing Scheme (SLBS)
Short Selling means selling of stocks that the trader / seller does not own at the time of trade. It can be done by borrowing the stock through Clearing House of a stock exchange which is registered as Approved Intermediaries (AIs).
Short selling by borrowing can be done by retail as well as institutional investors. The Securities Lending and Borrowing scheme allows short sellers to borrow securities for making delivery.
- Also Read: Types of Orders in Stock Market in India
What is the Rate of interest on Securities Lending?
Same as a Bank Loan, SLB (Security Lending and Borrowing) transaction also takes place at a rate of interest and tenure. This Rate is is fixed by the two parties entering the transaction.
Generally, the rate of interest is market-determined and is free of control. Only stocks in the Futures and Option (F&O) can be Lent or Borrowed.
The interest rate in a stock lending and borrowing transaction depends on the value of the Stock on the particular Trading Day. Generally, rate is calculated on monthly basis.
Read:
Tenure of Security Borrowing
Tenure of securities borrowing can be up to 12 months. Every SLB transaction is marked with the month in which it is due to be settled. The First Thursday of each month is the settlement data for returning the shares to the lender.
However, the tenure is not strict. The lender has the right to recall the shares at any point of time during the tenure period.
Securities Lending and Borrowing Risks
There are mainly 2 risks involved with securities lending:
- Borrower Default Risk: Borrower fails to return the borrowed security back to the lender.
- Cash Collateral Reinvestment Risk: Lender can call back securities on loan at any time.
– Also Read:
Example:
Suppose Stock of Reliance Industries is Trading @ Rs. 2,800/- Per Share. A Trader, Ramesh, assumes that the Price of Reliance Industries Stock will go DOWN to Rs. 2,500/- Per Share.
Now, if Ramesh had Stock of Reliance in His Investment Portfolio, he would SELL it to Avoid Loss of Rs. 300/- Per Share (2800 – 2500). But at Present He owns NO Stock of Reliance.
But, Ramesh can still still earn profit by short selling. He can borrow 100 shares of Reliance Industries from his broker in Return to a Fixed Fee and Interest. He can then sell the borrowed shares @ Rs. 2,800/- Each.
If His assumption turns out to be correct and Reliance Industries Falls to Rs. 2,500/- Each, He will buy back the shares for only Rs. 2,500/- Each. This way, Ramesh earns a profit of Rs. 300 Per Share or Rs. 30,000/- (100 Shares * Profit Per Share).
FAQs: Securities Lending
What is the Benefit of Securities Lending?
- The Lender enjoys the benefits of Diversification as he gets position of some other stocks or Bonds as Collateral and also earns extra income through Interest on Securities.
- The Borrower enjoys the Benefit of Short Selling.
Is Securities Lending a Good Idea?
Yes, Securities Lending is a Good Idea as it generates Passive Income. At the same time, it also involves some risks.
What are the Risks of Securities Lending?
There are mainly 2 risks involved with securities lending:
- Borrower Default Risk: Borrower fails to return the borrowed security back to the lender.
- Cash Collateral Reinvestment Risk: Lender can call back securities on loan at any time.
Conclusion
I personally suggest all Investors and Traders to avoid Intraday Trading and Share Trading by Securities Lending. Better do some research and Invest in Equity for Long Term.
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