You might have invested in the stock market as it is quite grooming nowadays. In the current scenario, several people are getting knowledge about the securities market and are investing their valuable funds in it. Till now you must have known about two mechanisms of earnings from the stock market: the first one is buying and selling the stocks and the other is the dividend. But in this article, I am going to tell you about a third mechanism that can help you in earning your shares.
In other words, lending and borrowing securities are known as the SLBM process. In this procedure, the stock is lent and borrowed between two Demat account holders. So it enables you to lend your shares to anyone and you can borrow from others as well. This system was introduced by SEBI in 1997. With this if you are a beginner then you should follow the tips for beginners to invest in the stock market, as it can enable you to explore the market.
Purpose of SLBM
The prime purpose of SEBI to initiate this platform was to bring more liquidity to the market. In the current scenario, several investors are part of this scheme and are availing of many benefits from it. With this, the retail investors are also getting the benefit from it.
What is Stock Lending and Borrowing Mechanism?
Securities lending and borrowing is a legally approved mode of lending and browning the securities. SEBI launched this scheme in 1997 and updated it in November 2012.
In the security market all the investors are allowed to lend or borrow the stocks but through an authorized intermediary. So if you are borrowing stock from someone and lending it to someone, and if there is any fraud arising in transactions then it will be your responsibility. But under the SLBM scheme, the stock exchange itself takes the settlement guarantee for every transaction.
Have you understood this? Probably not, and it is because it is a new concept. Well, you do not need to worry. Let's understand this with an example, and everything will be clear to you.
Suppose you sold a stock for one lakh and have bought it for 80k, it means you have earned a profit of 20k. The same lender gets 5000 as rent. Hopefully, you have understood the concept.
As far as profitability is concerned the SLBM approach is beneficial from both the perspective of the lender and borrower.
Let’s discuss the benefits of SLBM!
Benefits to Borrowers
If you borrow the stocks under the SLBM process, then there are some prime benefits to borrowers, and these are as under:
You can trade in the market without investing cash.
You can borrow one share as there is no limit to borrowing.
By borrowing an undervalued stock you can sell it when it becomes overvalued.
Traders borrow shares to arbitrate, they do so when the future is available at discount. In other words, they short the shares by buying and have to borrow as many shares as they have shorted from them.
Benefits to Lenders
Apart from borrowers, the SLBM scheme is useful for the lenders also, some prime benefits to lenders under this scheme are described as follows:
Lenders can earn an income from idle portfolios held by them as they receive a certain fee to lend their stocks.
There is no minimum quantity of stocks that can be lent by the lenders.
Lenders are liable for corporate actions like dividends, bonuses and many more benefits that take place during the lending period.
There is no counterparty risk, as all the transactions are guaranteed by the clearing corporations.
Recommended: Why Do Most People Lose Money in the Stock market.
Features of SLBM
Just like a bank loan, if you have borrowed the stocks from other investors then a certain amount of interest is to be paid to the lender. The rate of interest depends upon the tenure of such borrowings. According to the SEBI guidelines, the interest rate varies according to the duration of lending and the maximum period for this is 12 months. With this, the lending rate is not fixed in such borrowings as these are determined by the market conditions. So here some prime features of the SLBM approach are described as under:
The transactions that are operated under this scheme are guaranteed by clearing corporations, hence there is no counterparty risk.
All the F&O securities are liable for SLBM, besides this few eligible non F&O securities and index ETFs are also eligible for the same.
The contracts can be from one month to twelve months.
Thus these are some prime features of the SLBM scheme, with this you should also follow the guide on How to Read Stock Chart it will help you in assessing which stock is to buy or sell.
How Does it Work?
Here some prime steps of the SLBM process are described as under:
The lender submits the order to the participant and specifies the stock and quantity to lend, the time frame, and the expected fees of the loan. Here you should know that the lending fees are quoted per share.
The borrower submits the orders to the participant and specifies the stock, time frame, quantity, and lending cost.
On the lending fees, order matching works similarly to the stock exchange.
The 25% of the total amount of stock is to be deposited by the lender, it is to ensure that he would not default or not say no after saying yes to lend the stocks. As the stock leaves the Demat account and enters the market, the margin is released.
The borrower has to bring 125% of the stock value he is borrowing as a margin with the additional loan fees. After borrowing 125 percent he can sell the stocks and block only 25% of 125%. However, he has to bring 125% at the time of purchase.
MTM on the margin every day guarantees that there is no possibility of borrower default.
At the end of the contract the stock is returned to the lender and the margin of the borrower is freed.
SLBM is a prudent way for investors to make an additional income through stocks. In other words, it is a smart option that is available to the investors to have a supplement income. Traders can borrow stocks to avail the benefit of arbitrage opportunities to meet the obligations of the stock exchange.
So if you also want to raise the income from your stocks without losing your ownership of them, then the SLBM is a good option for you.
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