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Stock Lending & Borrowing Mechanism (SLBM)
It is a system in which a trader can borrow shares that they do not already own or can lend the stocks that they own.
An SLB transaction has a rate of interest and a fixed tenure.
Why do traders do it?
- Traders borrow stocks to short-sell them in the market.
- Short selling means the sale of a stock, the trader does not own.
- Short selling can be done by institutional investors and retail investors.
- The SLB mechanism in turn allows short sellers to borrow securities for making delivery.
How does it work?
For example, you have a negative view on the price of a stock. You can borrow shares from SLB and sell them. You can buy them back if and when the price falls. Your profit is the difference between the selling price and the buying price, after deducting the interest rate.
Let’s say stock price of Company Z is trading at Rs. 200. You decide to short sell 100 shares of Z for a total of Rs. 20,000.
Suddenly, disappointing quarterly profits cause the share price of Z to fall to Rs. 190. You can now buy 100 shares of Z for Rs. 19,000.
You then return the shares of Z to the lender who accepts the return of the same number of shares lent, regardless of the fact that the shares prices have fallen.
You retain the Rs. 1,000 difference (minus interest and other costs). You make a profit.
Benefits of short selling
Short selling helps you benefit from the downturn.
It can reduce potential risks and losses.
Through hedging or offsetting, you can protect another investment or portfolio.
It increases liquidity for the trader.
- Hedging mechanism
- Enhances liquidity
- Convenience of online trading
Read about the primary and secondary stock market
+ Expand AllFrequently Asked Questions (FAQs)
QWhich are the securities available for lending and borrowing?ASecurities on which derivatives are available can be used for SLB transactions.
QWhat is the tenure of SLB transactions?AThe tenure of SLB transactions is up to 12 months.
QHow do I quote the lending fee?ALending fee is quoted on per share basis. Lending fee may be on the cost which the borrower expects to pay, or it is based on the annual yield expected by the lender.