What are Do’s & Dont’s About SLBMs? 

Did you know, the stock exchange allows you to sell shares you don’t have? Well, sensationalism aside, yes, you can–on a technicality, at least. When you have delivery obligations, you can borrow shares to avoid penalties. This is possible with SLBM.   

With the Stock Lending and Borrowing Mechanism (SLBM), traders can temporarily borrow shares (from lenders), to meet their delivery requirements and mitigate the shortage. It can also be leveraged by lenders to generate additional passive income with the lending fee. 

But How Does SLBM Work? 

The NSE has a list of approved stocks on which SLBM can be applied. Your broker must have this facility as well. Lenders (investors who already own shares) can then offer a certain quantity of shares and choose their expected return. Borrowers can place a request for shares and the fee they are willing to pay. The exchange matches the orders and lends the shares to the borrower, with a contract expiry date. 

It is to be noted that the lender still owns the shares, therefore receives all associated benefits such as dividends, bonuses and splits. 

What Must Traders Do to Make the Most of SLBM? 

Here is what traders need to know. 

  1. The first thing traders should do is to check the list of SLBM-approved stocks. This list changes from time to time. 
  2. Look at the lending fee to understand your total cost in this exercise. The lending fee changes based on the demand, so check that before entering the contract. 
  3. Borrowers must keep enough collateral in their account–the required amount is usually blocked by the exchange to protect against risks. Failure to provide adequate collateral can result in rejection of your order request. 
  4. SLBM contracts come with an expiry date. Tracking it assures both parties of when the shares will be transferred to or from their respective demat accounts. 
  5. If you suspect a stock’s price will go down in the near future, you can borrow shares, sell them immediately, and buy them back later at a lower price. 

For example, let’s say HUL share price is currently ₹2445. You expect it to fall to ₹2435. You can borrow shares at the current price and pay maybe ₹1 a share as borrowing fees. And you sell the shares immediately at ₹2445 and buy the shares back when they reach 2435. Return the shares by SLBM and enjoy the profit of ₹9 per share. 

Traders, Don’t Do This With SLBM 

Here is what traders should avoid with SLBM. 

  • Treating it risk-free: For lenders, do not treat it like a risk-free income generator. While it is admittedly low-risk for lenders, there are no guarantees of high returns. The lending fee is determined by market conditions. For borrowers, there’s always a possibility of share recall situations resulting in the termination of that contract. 
  • Not assessing cost: Borrowers must obviously assess the cost of borrowing with respect to the potential financial gain. If the borrowing fee runs too close to the estimated gains, then assess if it’s worth the risk. 
  • Not sticking to the deadlines: Late return of shares or failure to return them will result in penalties. The margin money will be debited to cover the cost and can also lead to trading restrictions on the borrower. 
  • Not tracking market events: Corporate actions, news reports, and short squeeze conditions all affect availability of shares, and consequently, the lending fee. Entering SLBM positions without tracking these events can result in unnecessary risk-taking. 

Conclusion  

SLBM provides liquidity in the market and reduces settlement failures. If you do not have enough shares to return to the exchange at the time of settlement, you can avail of SLBM to meet your obligations.  For lenders, it provides an opportunity to earn additional income passively.  It goes without saying that it needs sensible participation from both lenders and borrowers to maintain the usefulness of the system.