How does SLB work?
SLBM refers to the stock Lending and Borrowing mechanism that allows a trader to borrow shares that they do not already own or lend stocks and shares that form a part of their portfolio. An SLB transaction has its characteristic rate of interest and a fixed tenure.
The SLB facility on NSE and BSE offers Investors an opportunity to earn incremental income while leveraging their Demat holdings in addition to earning dividends. This allows investors with the lowest risk potential a chance to earn a “rent” on the portfolio holdings. All securities trading in the F&O segment is eligible to be a part of the SLB activities. As a result, similar to F&O, each lending cycle is monthly with the choice to choose the lending month available to the investors.
How does SLB work?
Considering an investor holds 100 shares of a certain stock A, which another market participant is willing to borrow for 1 month at Rs. 2. The return in this scenario is equivalent to earning Rs. 24 per year (24% annualized) without undertaking a risk. Before executing these transactions, the participants are required to formalize documentation by signing an SLB Rights and Obligations Form.
The Investor keen on lending the shares in their portfolio can then instruct the broker to put an order in the system for lending their shares.
Stock and security borrowing is largely done by institutions and traders, keen on hedging their positions in the futures and options (F&O) segment. Typically, borrowers also comprise traders, derivative fund managers, and other institutions that utilize the SLB facility to short sell stocks.
The SLB work takes place through an automated screen-based order matching platform, set up by authorized clearing corporations, which also act as the central counterparty guaranteeing settlements while collecting margins for the same.
As the facility is counter guaranteed by exchanges, they are also responsible to ensure appropriate safeguards in place including very high margins and penalties in scenarios where commitments are not honoured, ensuring lenders do not suffer losses.
SLB works with a settlement cycle on a T+1 basis, for all its SLB transactions. This implies that the lender receives their lending fees and the borrower receives their borrowed securities on the day following the trade.
Upon expiry of the transactions, the first Thursday of each month, or when the lender/ client recalls their shares, the trade is considered to be annulled. The stocks revert to the original lender’s account automatically upon transactions expiration. In events of any associated corporate action benefits to the shares lent, they belong to the original lender, as the SLB trade is not considered as an actual capital transfer but only a temporary lend. Following the same reasoning, as per Income Tax regulations, the trades and other related earnings are not seen as capital gains, but as “Other Income”.
How to Lend My Shares
The lender utilizes the SLB working to earn an incremental return on an idle portfolio. Lenders usually comprise Insurance companies, banks, HNIs, and mutual funds. The lender can instruct the broker to put an order in the system for lending their shares as a part of the SLB transaction by indicating details regarding the quantity, limit or market price, client code, and securities to be lent.
The lender is also required to state the lending fees expected. The lending fees are quoted on a per-share basis. Orders matching the lending fees follow the same lifecycle as those trading on an exchange. The lender is required to submit 25% of the total lending stock amount, immediately to cover any risk of default. Upon successful transfer of the lent stock to the borrower, the margin amount is released back to the lender. On annulment of the transactions, the lender gets back the stock.
How to Borrow Shares
How SLB works for borrowers is by providing them with an approach to borrow stocks for arbitrage, for short selling or to avoid physical settlement. Investors with a bearish view of a stock can sell the stock by borrowing it via the SLB route. Borrowers place an order with the exchange broker indicating the period, quantity, and lending fee they are good to pay.
Upon being matched with a lender on the borrowing criteria, the borrower is required to bring in 125% of the stock value of the borrowed stock as margin, in addition to the lending fees. On borrowing, the borrower can sell the stock effectively blocking only 25% out of the 125%. Daily MTM on the margin ensures no borrower default risk.