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Margin funding fastest growing business for retail brokerages

Margin funding fastest growing business for retail brokerages
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First Published: Sat, Mar 17 2007. 12 03 AM IST
Updated: Sat, Mar 17 2007. 12 03 AM IST
The lure of easy financing options offered by aggressively expanding broking companies is turning more and more small investors into speculators. Margin funding is the fastest-growing business of retail brokerages with income from this business growing faster than brokerage income, the mainstay of a stock-broking house, for many broking houses.
Margin funding is the funds that brokerages arrange to finance investors’ share purchases. It has nothing do with a situation where an investor needs to bring in more money to bolster margins kept with the broker for trading when share prices fall. The crucial difference between the two is that while a jobber or a day-trader uses the latter for intra-day trade, margin funding is used mostly by small investors to take delivery of shares, even when they do not have the money to buy the stock.
Fast-growing retail brokerages such as India Infoline and India Bulls fund 50-75% of the cost of buying shares with loans at interest rates ranging from 18% to 24%. Under this arrangement, if you want to buy Infosys shares worth Rs1 lakh, you need to pay only Rs25,000 or Rs50,000 and the balance will be funded by the broking house or its non-banking finance subsidiary. The amount of money offered depends on the stock that you are buying and the financing option chosen.
According to a customer service person from India Infoline, it funds 50% of the value if the margin funding is done through the company directly and 75% if the finance is taken through its non-banking finance subsidiary, which has an agreement with HDFC Bank to finance it. The non-banking finance arm will open an account for the investor with the bank, which will be used to transfer money for margin funding. “This will be a dummy account which we will open for you and you will not have to deal with the bank for this,” he said.
Retail finance for buying shares is quite easy in the on-line world. Many brokerages have on-line gateway to most new generation private sector banks such as ICICI Bank and HDFC Bank, which facilitate the investors to transfer funds from their account to brokerage accounts in real time, when the value of shares fall in the market. For example, if the value of Rs1 lakh worth Infosys shares falls to near Rs50,000, and the margin funding was for 50%, then the investor will need to bring in more money to maintain the margin or else the broker will sell the shares to recover the money lent as well as the interest.
It is difficult to quantify the quantum of financing in retail share purchases, though industry players admit that it has now become a common practice. One could get a feel of the size of the industry by going through the balance sheets of publicly listed brokerages.IL&FS Investsmart Geojit Financial Services.
Their balance sheets reveal that the fastest growing component of their business is income from fund-based activities like margin funding. India Infoline, for example, had 19% (Rs11.38 crore) of its income in the quarter ended 31 December 2006, coming from finance activity as against 4% (Rs2 crore) in the quarter ended 31 December 2005. Others have not provided the income break-up in their quarterlyresults. But their balance sheet for the financial year ended 31 March 2006 reveals that income from financing activity is on the rise.
The Reserve Bank of India (RBI), the country’s banking regulator, keeps a close watch on the exposure of banks to the stock market. It had prescribed limits, but lending money to a non-banking finance company which, in turn, lends it to a stock broker does not fall within this limit. Under the norms of the country’s central bank, the aggregate exposure of a bank to capital markets in all forms (including investment in shares as well as stock lending) should not exceed 40% of its net worth. Many new private sector banks are learnt to be nearing this exposure limit.
RBI is aware of the additional exposure to stock markets through lending via non-banking finance firms to stock broking firms. It has taken some measures to reduce the fund flow to stock market by making it expensive for banks to lend to such non-banking finance companies. In its latest credit policy announcement on 31 January 2007, the central bank increased provisioning requirement for banks’ exposures “to non-deposit taking systematically important non-banking financial companies” to 2% from the earlier 0.4% and increased the risk weight for banks’ exposure to such firms to as much as 125% from the existing 100%. This essentially means that for every Rs100 worth of lending to such a firm, a commercial bank needs to make a provision of Rs2, up from Re0.40.
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First Published: Sat, Mar 17 2007. 12 03 AM IST
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