Loans Against Security: A Trend Analysis

Loans against security are gaining public confidence of late. Read on to find about the current trends related to this popular option in India.

Did you know that loans against shares have sharply increased to 78%, pushing retail growth to 18% year on year in November 2015? This RBI data analysis published in The Economic Times mentions that this steep rise is reflective of the burrower’s confidence in this funding option.

There are various types options that can be used as collateral for loans against securities, including demat shares, mutual funds, gold deposit certificates, Kisan Vikas Patra, National Savings Certificates, life insurance policies and more. In this type of funding, you pledge your shares for one year to raise the required burrowing sum.

What’s Attractive About Loan Against Shares

  • They are offered at lower interest rates than personal loans
  • The shares mortgaged are not extremely important assets, like property or gold
  • The ownership remains with the burrower, who continues to draw benefits from the securities
  • Interest in only charged on the withdrawn amount
  • No guarantor is required

The Need to Have Regulation

Since the financial market can be volatile and can oscillate between bullish and bearish tendencies, which impacts the loan taken by traders or promoters who seek to use the funds either as leverage or for increasing their holdings. This also has a negative result for companies in the long term, as this could reduce the value of shares for shareholders.

To tackle this problem, the RBI released basic guidelines for NBFCs in 2014 to prevent offloading of shares in cases of default on payment by burrowers. According to the RBI regulations:

  • All NBFCs with an asset size of Rs 100 crore and above must report to SEBI online, giving out important information about the shares pledged to them by the borrowers for loans.
  • They must maintain a loan-to-value ratio of 50% when offering loans against shares
  • In cases where the advance is more than Rs 5 lakhs, NBFCs can only issue loans against ‘Group 1’ category securities (Group 1 refers to SEBI’s categorization of securities. This includes all the shares that have been traded for 80% of the days (give or take 5%) for the previous 18th The scrips having impact costs of less than or equal to 1% are part of Group 1.)

The norms for banks lending loans against securities are much tighter:

  • Banks must maintain a margin of at least 50% if shares are held in physical form and 25% if in demat form
  • Banks are allowed to lend no more than Rs 10 lakhs if the shares are held in physical form and less than Rs 20 lakhs if the shares are in dematerialised forms.

NBFCs, therefore, have a much open hand, if you are looking for loans against securities.

Loan against shares is definitely a quick way to fund your liquidity needs. Look for the list of shares against which you can obtain such financing. But before that, make sure you have enough funds to make the repayment to avoid forfeiture of your shares.

Author: Eddy

Eddy is the editorial columnist in Business Fundas, and oversees partner relationships. He posts articles by others on various topics related to strategy, marketing, supply chain, technology management, social media, e-business, finance, economics and operations management. The articles posted are copyrighted under a Creative Commons unported license 4.0. To contact him, please direct your emails to editor.webposts@gmail.com