By Bloomberg

By Bloomberg

Pledged stock being sold to meet margin calls

Pledged stock being sold to meet margin calls

Mumbai: Non-banking financial companies (NBFCs) that lent money to firms against shares pledged by their founders are being forced to sell them as the stock market slump has diminished the value of the securities and the borrowers aren’t able to top up the collateral.

By Bloomberg

Two such lenders, who spoke on condition of anonymity, said the market has witnessed promoters’ holdings pledged as loan collateral getting sold as creditors strive to meet so-called margin calls. The head of a Mumbai-based brokerage, who also didn’t want to be named, even said that this has fuelled the stock market slump over the last few days.

Since the beginning of the calendar year, the BSE benchmark index, the Sensex, has lost 23.45%, wiping out 3,516.18 trillion of investors’ wealth.

Typically, the amount NBFCs lend to company promoters is less than the market value of the shares pledged. The shortfall is the margin that lenders retain as security. When the market value of the shares falls, these lenders ask the promoter to top up the margin with more cash, also known as a margin call. If the promoter fails to bring in additional cash, the NBFC can sell shares to maintain the necessary margin.

“Many promoters just don’t have the cash to meet margin calls," said the brokerage head cited above.

Some of the notable NBFCs that fund promoters against their shares are India Infoline Ltd, Edelweiss Financial Services Ltd and Religare Enterprises Ltd.

The pledged shares of around 20 mid-cap and small-cap companies may be getting sold in the market to meet margin calls, said Nirmal Jain, chairman of India Infoline, a Mumbai-based company that offers financial services ranging from equity broking to loans.

“There hasn’t been any significant selling from our side," Jain said. “Also, where we fund against scrips they are mostly large and liquid ones."

An email sent to Edelweiss on Monday did not elicit any response.

A Religare spokesman declined to comment in response to an email.

A report by Delhi-based brokerage SMC Global Securities Ltd released in June said the promoters of 782 listed companies had pledged their holdings with lenders. The total value of shares pledged was pegged at 1.53 trillion at the time.

Companies with smaller market capitalization and substantial promoter holdings faced a greater risk of being unable to meet margin calls in a cash-crunch situation, the report said.

The head of another large Mumbai-based company that offers financial services similar to India Infoline said the demand for such funding among promoters had witnessed a decline due to the prevailing market conditions.

“The market for such kind of lending against shares is estimated at 25,000-30,000 crore," he said on condition of anonymity. “Depending on the market conditions, it can swing 4,000-5,000 crore either way."

Jain said his company was shifting focus to other kinds of loan products such as mortgages and gold loans. The proportion of loans against shares as a part of the NBFC’s total loan book had come down to around 20% as on 30 September from half three years back, he said.

A recent recommendation by a Reserve Bank of India panel headed by former deputy governor Usha Thorat that the risk weight attached to the exposure of NBFCs to the capital market be raised to 150% (from 100%) is also a disincentive to continue promoter funding in a big way, Jain said.

A second concern in the current market is on account of many investors who had availed of so-called margin funding to buy shares scrambling to book losses and sell their holdings as they are averse to paying additional margin.

A brokerage usually allows an investor to buy shares if he keeps a percentage of the market value of the shares as initial margin, while the transaction is settled later.

If the value of the shares purchased diminishes, the broker calls upon the client for additional margin as security.

“A particular brokerage was forced to sell shares worth as much as 400 crore last week," said the head of the financial services group cited earlier.

Also Read |A regulatory system for NBFCs

***Returns of most IPOs in FY11 negative