SLBM Explained: How Stock Lending and Borrowing Works in India

SLBM explained India means understanding a market mechanism where an eligible lender shares a stock while a borrower takes it for a short period. The lender may charge a fee. The borrower gets the temporary rights to deal in securities with the market regulated Securities Lending and Borrowing Mechanism. In India, SLBM works on an exchange and clearing infrastructure.

For a long-term investor, SLBM may mean an opportunity for an additional income on shares that are already invested. For a borrower, it also means getting access to securities for either carrying out a short-sell or fulfilling the delivery requirements. However, SLBM is more than a private agreement between two market participants. It has several rules that potential participants must be aware of.

This report provides an overview of SLBM in India along with eligibility, instructions, margin and corporate action rules. It explains how SLBM works, the risks associated with stock lending and borrowing, and how lending fees are determined.

SLBM Explained India: What Is Stock Lending and Borrowing?

SLBM which stands for Securities Lending and Borrowing Mechanism, is a market mechanism that is regulated and involves the temporary transfer of securities from a lender to a borrower within the framework of the stock exchange, clearing corporation, and SEBI.

Here's how it works:

• Lender: Securities are placed at the disposal of the lending market for a specific period and the lending fee is received.

• Borrower: Securities are offered on lease and the agreed fee is paid.

• Market infrastructure: Orders are matched, settlement is done and collateral and securities are transported.

• Broker/authorized participant: Facilitates the participant's access to the SLB segment in accordance with the facilities and processes offered by the intermediary.

NSE has said that the Securities Lending and Borrowing Scheme uses an automated platform based on screens where orders are matched on price-time priority. The tenure is set at a maximum of 12 months with specified reverse-leg settlement dates scheduled on a monthly basis.

How Does SLBM Work in India?

SLBM is like a stock loan. It allows you to temporarily lend your stocks rather than having to sell them. An investor has 1,000 stock shares of an eligible company. The investor does not plan on selling these stocks in the future. If these stocks are shares that can be borrowed through SLBM, the investor can create a lending order through a broker.

Another participant plans on borrowing the stock. The stock borrower agrees to the lending fee associated with the stock. If the order executes, the stock transaction is done through the stock exchange’s approved stock settlement process.

1. The investor lends stock shares that are eligible to be lent.

2. The investor places an SLB lending order through the broker that provides the stock lending service.

3. A stock borrowing order is placed by the stock borrower.

4. The stock lending order is filled against the stock borrowing order in accordance to the stock exchange’s rules.

5. The stock lending order is fulfilled by the stock lender.

6. The stock borrower posts the required stock exchange collateral and pays the lending fee in accordance to the stock exchange’s rules.

7. The borrowed stock is held for the series and term agreed upon by the stock lender and stock borrower.

8. The borrowed stock is returned to the stock lender through the stock exchange’s clearing process.

The SLB facilities and tariffs are offered differently by stock exchanges. Investors should check the SLB facilities and tariffs offered by their broker in order to place an order.

A simple SLBM example

Investor A, who wants to keep 500 shares of a particular company as a long-term holding, lends these shares through SLBM.

Investor B wants to borrow 500 shares. Investor B is ready to pay a lending fee of ₹4 per share for the selected contract. If this order is executed at this fee, the lending fee obligation comes to:

500 shares × ₹4 = ₹2,000

The amount of ₹2,000 is the lending fee obligation in this case prior to considering the applicable taxes, brokerage, exchange fee, and other related fees. The lender does not earn ₹2,000 for placing the order. The order has to be executed and settled.

In terms of the applicable SLB tenure, after the end of the tenure, the borrowed securities have to be returned through the reverse-leg settlement process, as per the applicable rules.

This example is only illustrative. Actual lending fees are determined by the market and can be very different for different securities based on demand, tenure, and market conditions.

How is the SLBM lending fee determined?

The lending fee is one of the critical elements of SLBM. It is not a fee set by stock exchanges for providing a particular service at a defined rate. Participants quote the lending fee for the securities they want to lend or borrow and the SLB system executes the trasaction.

NSE uses the term lending fee to define the transaction price quoted on a per share basis. On NSE, for instance, if a transaction was done at ₹5 per share for 100 shares, the lending-fee obligation would be ₹500.

Lending fees will depend on the prevailing supply and demand. In some cases, securities that are in higher demand for borrowing may charge higher lending fees. However, there is no certainty that a particular stock will generate a sufficient fee or that demand for the stock will be maintained over time.

Investors are also required to differentiate lending fees from the market value of shares. Lending fees represent the consideration for the temporary loan. The shares will be sold at a different value.

Who Can Use SLBM To Extend Shares?

Investors lending shares under SLBs must have access to eligible SLB facilities through an intermediary. Shares should also be eligible for the respective SLB segment and in the required Demat form.

Based on current information available on the NSE website, securities lending and borrowing will be in the Demat form and securities that are eligible for lending will be announced by the NSE Clearing Corporation. NSE also states that the securities that are traded in the F&O segment of NSE will be permissible under the SLBS framework, subject to the applicable eligibility and rules.

In such a case, having ownership of a listed share does not guarantee share lending through SLBM. Eligibility needs to be checked against the current exchange list prior to placing an order.

How Do Your Shares Get Affected When You Lend Them?

Shares lent through SLBM should be distinguished from shares retained in a Demat account. Securities are transferred based on the settlement mechanism prescribed for the lending period.

The lender should have an understanding of the contract series, reverse leg date, recall facility, and treatment for corporate actions. NSE provides lenders the early recall facility, however recall and the process will depend on the contract and the current exchange rules.

Corporate actions also require a lot of focus. An SLB contract may be subject to foreclosure or adjustment based on the nature and the terms of the corporate action. Investors should check the current exchange rules for the specific security and contract series.

Why Do Investors Borrow Shares?

Some borrowing needs arise from various causes, and one of them is facilitating an authorized short-selling transaction. A participant will use the lending service to settle a transaction, if permitted.

SEBI’s framework links securities lending and borrowing with the framework of short-selling. This framework provides an orderly alternative to an informal bilateral arrangement for securities lending.

For example, if a transaction for authorized short-selling is done by selling shares which the seller does not own, then to fulfill the requirements of delivery and settlement, that seller will have to borrow the shares. The service provided by SBLM fulfills this requirement of borrowing.

SLBM vs Normal Shareholding

SLBM therefore should be viewed as an additional market facility rather than a replacement for ordinary share ownership.

What Are the Advantages to Lenders of Participation in SLBM?

What primarily interests lenders is the potential to realize additional income from shares that they plan to keep. Rather than just holding an eligible security, an investor may be able to lend it if demand for borrowing is present.

• Additional potential income: Additional income is realized through lending fees.

• Long-term holding: From a long-term holding standpoint, temporary lending is something that potential investors might consider.

• Market activity: Lending has a positive impact on market functioning.

• Structured process: Instead of making an informal private deal, trades are done through a formal exchange and clearing process.

A lending fee, in and of itself, should not be considered guaranteed income. There is a loss of flexibility, as well as the assumption of a range of market-structure and operational risks.

SLBM Stock Lending Risks

SLBM has a formal clearing and collateral framework, but that does not make the activity risk-free.

1. Recall and liquidity risk

Your SLB shares are lent, and you have an immediate need to sell these shares, then you are looking at a recall or a call instead of a sale. This is a very different process from selling shares which are in your Demat account.

2. Counterparty risk, settlement risk

The clearing framework is concerned with margin and collateral to cover resulting obligations, but securities lending includes settlement and counterparty risk. SEBI sec-lending documents outline counterparty, collateral and settlement risk as well as liquidity risk.

3. Corporate action risk

Contracts for securities lending are subject to corporate actions. An investor is required to assess if the contract will survive the corporate action, will need to be adjusted or if it will be forfeited.

4. Fee risk

Lending fees do not remain the same, even if they are high currently. The demand for securities to be borrowed can change at any time

5. Opportunity cost

If shares are lent, the investor will forgo the ability to transact with those securities. The cost will need to be weighed against how much lending fees will be.

6. Costs and taxitation

The net outcome may diminish due to brokerage fees, commissions, taxes, and other related expenses. The tax implications for income and transactions vary depending on the scenario and the existing tax laws. Therefore, investors should take the time to research and verify the situation, because they cannot assume the lending fee is fully tax-free.

Tenure and Early Recall of SLBM

According to NSE, SLB contracts have specified monthly reverse-leg settlement dates. Tenure is allowed to be as short as a few days and as long as a year. Early recall is provided by lenders as a facility.

The most important thing that we learn from this is, before lending, one has to confirm the particular contract series and the reverse- leg settlement date. Not all SLBM transactions can be considered equivalent to the established equity position, and thus are not easily accessible.

Margins and Collateral in SLBM

SLBM manages margins and collateral for the participants of the trading. NSE, in their published SLBS information, has described the margin for lending and borrowing and has said that collateral and margin will apply during the settlement cycle.

For borrowers, collateral is of prime concern as the clearing mechanism requires protection for securities that are extended, but not returned. Margin requirements can vary depending on the exchange and clearing rules, and thus the latest information on NSE Clearing and intermediaries should be used, rather than outdated examples published on the internet.

So no, SLBM should not be confused with the transfer of shares to another party. The transaction involves a formal market infrastructure that has settlement obligations.

How to Verify if a Stock Meets the Criteria for SLBM

Do not trade securities that do not meet the requirements for SLB lending and borrowing unless you are certain you do not want to trade them. For the latest information on eligible securities, visit the website of the related clearing corporation or exchange. Currently, NSE's reports on SLBs, including published eligible securities lists, deem their SLBS information as operational.

Investors need to know:

• If the security is currently eligible for SLBM.

• The contract series and tenure that are available.

• Current quotes and market depth for lending fees.

• Potential Corporate Actions.

• The SLB broker’s fees and service requirements.

• The details of the recall and repayment process.

SLBM Process: A Handy Tool for Investors

1. Eligibility Check: Verify that your security is SLB-compliant.

2. Broker Check: Verify that your intermediary processes SLBMs and see what fees are associated.

3. Contract Check: Verify the series, tenure, and reverse-leg settlement date.

4. Check Lending Demand: Don't set lending income expectations, check the lending market instead.

5. Check Corporate Actions: Be certain to review the event record and other important dates.

6. Learn About Recall: Learn how an early recall request works and if it will satisfy your previously unmet liquidity needs.

7. Estimate Net Benefit: Consider lending income after you default on the broking costs and taxes as well as the potential loss of flexibility.

8. Document Everything: Record all your trade confirmations and statements for tax and record keeping.

For general information on securities-market regulation and investor protection, investors can refer to SEBI and the specific exchanges. For information on the current state of SLBM operations, refer to the NSE India website.

Who Should Consider SLBM?

A possible candidate for SLBM is an investor who has eligible shares, and has a longer time horizon (recognizing that the shares may be unavailable for normal use while they are held in an SLBM position), and understands that the shares will be lent, not sold.

This may not be an ideal candidate for an investor who is looking to sell the shares at any moment, does not understand the contract terms, or is looking at SLBM because a certain type of lending fee is most advantageous.

The key question is not, “How much will I earn with a share loan?”, but rather, “How much am I risking, what am I giving up, and with the trade offs, will the reward be worth it?”.

Is SLBM the Same as Short Selling?

No. SLBM and short selling are related, but are not the same.

SLBM is the procedure through which a lending/borrowing transaction of a security is conducted for a specific period of time. Short selling means selling securities that are not held by the seller in compliance with the applicable rules. The securities lent in a SLBM deal can be borrowed to meet the obligations associated with short selling.

Understanding the distinction helps novice investors understand that lending shares does not necessarily mean the lender is selling shares short (as the case may be) because the lender and the borrower are different parties.

conclusion

• SLBM is a unique facility offered by NSE where eligible securities are lent and borrowed on a regulated market.

• Lenders are exposed to lending fees which, however, are not guaranteed.

• Only eligible securities and contract series can participate in SLBM, and hence, investors need to check the list of the current exchanges.

• Settlement, collateral, margin, liquidity, corporate action, and counter-party risk are some of the main considerations in SLBM.

• Investors need to familiarize themselves with the lending and shares recall process.

• While considering lending stocks, the costs, taxes and liquidity needs and other related opportunities must be taken into consideration.

For investors who want to understand the broader role of Demat holdings and equity-market participation, you can also explore stocks and equity investment products and learn more about SLBM as an investment-market facility. If you are new to Demat accounts, see our Demat account opening guide before using market-linked facilities.