Stock Lending & Borrowing Mechanism (SLBM) Explained | Passive Income from Your Stocks

What if I told you your shares can earn you extra income without even trading them? You've heard about earning rent

them? You've heard about earning rent via property. But what if you can earn

via property. But what if you can earn rent from your stocks? That's exactly

what SLBM or stock lending or borrowing mechanism allows you to do. We briefly

discussed about this in our passive income video and a lot of you asked for a detailed explainer on SLBM. So here we are with a full breakdown on SLBM. How

does this work? What returns you can expect and can you actually earn additional income without selling your shares. Here we are going to discuss

shares. Here we are going to discuss seven key things that you absolutely need to know and we will be in covering them one by one. So let's begin.

Securities lending and borrowing mechanism is a way via which the investors can temporarily lend their shares to other traders for a stipulated

time and fee. And you'll be surprised to know that this mechanism is not a recent development. It came in existence in

development. It came in existence in 1997. Then it was revised in 2010 and

1997. Then it was revised in 2010 and later became popular in 2012. Let's

understand the process of SLBM. Meet AJ

our lender friend and Mera our borrower friend. We will be explaining the

friend. We will be explaining the process of SLBM via their example in this entire video. Step one first both of them will go to NC website then to

market data and then to securities lending and borrowing. Here they will find all the stocks that are eligible for SLBM transaction along with the offer price from lender and bit price

from the borrower for the lending fee.

AJ is a long-term investor and has 100 SBI shares which are trading at 800 rupees. He plans to lend these shares.

rupees. He plans to lend these shares.

So he will approach his broker to lend these 100 SBI shares at a lending fee of 1.2% of the total value of the stock

which will be 960 in total. Now Mera our borrower friend on the other hand reaches her broker to borrow these 100 SBI shares and she is willing to pay

0.8% of the total value of the stock as her lending fee which comes down to 640 rupees in total. Now the order matching will take place on this lending fee

similar to trading on the exchange.

Let's say the order matching happens at 1%. Which means the lender will get 800

1%. Which means the lender will get 800 rupees in total whereas the borrower will have to pay 800 rupees as the lending fee. Once the order matching is

lending fee. Once the order matching is done both the lender and the borrower will have to fulfill their obligation.

AJ's account will be debited by those 100 SBI shares and on the next day Merra's account will be credited with those shares. Once the contract comes to

those shares. Once the contract comes to the expiry then MRA will have to return these 100 SBI shares along with 800 rupees as lending fee. Mind you SLBM

contract has a monthly expiry like that of an FNO contract. But unlike FNO contract that expire on the last Thursday of the month, SLBM contracts

expire on the first Thursday of the month. And in case if that day is a

month. And in case if that day is a holiday, then the contract will expire on the next working day. Also, one can roll over SLBM contracts like that of

FNO contract. One can roll over for 1 +

FNO contract. One can roll over for 1 + 11 months where 1 is the first month of the contract and 11 is the number of times you can roll over. Therefore, on

the NSC website, you will see the contracts active for 12 months. Now that

AJ's account is debited with 100 SBI shares. Meanwhile, what if a corporate

shares. Meanwhile, what if a corporate action is announced like dividend, buyback, stock split, etc. There are actually two types of contracts, series

A and series B. If you have placed the order under series A, in that case, if any corporate action is announced, the contract will foreclose before the X

date. But let's say you have listed your

date. But let's say you have listed your contract under series B. In this case, dividend and stock split, the contract will not be foreclosed. But for other

corporate actions like bonus issue, buyback, open offer, etc. the contract will foreclose. If a dividend is

will foreclose. If a dividend is announced, in that case the exchange will take that dividend from the borrower and then will give it to the lender. And in case of the stock split,

lender. And in case of the stock split, the borrower will have to return the adjusted quantity before the expiry date. For example, 100 shares were being

date. For example, 100 shares were being borrowed by Mera. And let's say SBI announce 1 is to 10 stock split. In this

case, those extra 1,000 shares, Mera has to return them as well to AJ before the expiry of the contract. Now if you are thinking which series to choose from

series A or series B then go for series B because it has more liquidity. Now

that you have majorly understood the transaction let's understand benefits and risk from the perspective of AJ our lender and Mera our borrower. So for AJR

lender the sole reason he will be lending his share is to earn additional income on his stocks without even losing ownership of the same and they will get

this additional income once the contracts come to an expiry and the borrower pays them back the lending fee.

But what if the borrower defaults by borrowers default we mean what if mira is unable to give back those 100 shares.

In this case, exchange will carry out the auction for those shares. AJ via

auction will get back his 100 shares and Mira will be making the payment for those shares. Along with that, we'll

those shares. Along with that, we'll also be giving 800 rupees as lending fee to AJ. But what if nobody sold the share

to AJ. But what if nobody sold the share in the auction? In that case to do good with AJ Mira will be giving him the

value of the share along with the lending fee. But since it will be

lending fee. But since it will be treated as a sale transaction that is why if there is any gain AJ will be liable to pay capital gain on that

additional income. Also, when the

additional income. Also, when the lenders want the share back before the expiry of the contract, they can do so by recalling these shares and placing a

recall order under the same series in which they have lent. However, there is no guarantee because it depends on the price and the open orders. The lenders

can call back their shares on the market price if they need those shares back urgently. Now coming to the borrowers,

urgently. Now coming to the borrowers, there are actually three reasons why a borrower will be borrowing the share via SLBM. Number one is to short sell. We

SLBM. Number one is to short sell. We

know that you can either short the shares in intraday market or FNO market.

But if you want to short the shares in delivery trade that you can do so via SLBM transaction. See you borrow the

SLBM transaction. See you borrow the shares from the lender, you short them in the market. Later on you buy them at a cheaper price and then return these shares back to the lender. Let me

explain with the help of an example.

Mira borrowed 100 SBI shares from AJ which were trading at 800 at that time.

She believes that SBI shares will fall to 775. Over a month the stock comes

to 775. Over a month the stock comes down to 775 and she buys those shares at that price. This way she earns a profit

that price. This way she earns a profit of 2500 rupees. Now she will return those 100 shares back to AJ along with a

800 rupees lending fee. So in total she made a profit of 1,700 rupees. The

second reason is to settle the short delivery trades. See when you short the

delivery trades. See when you short the stock intraday you are supposed to buy it back the same day itself. But what if the stock hits the upper circuit and you

are unable to exit then the transaction is completed the next day in the auction. But when you buy the stocks in

auction. But when you buy the stocks in the auction, it can be comparatively expensive as compared to paying a small lending fee in the SLBM trade.

Therefore, borrowers often choose SLBM trades in order to cover for their short position to avoid settlement failure.

The third reason is to take advantage of cash future reverse arbitrage trade. Let

me explain. Let's say SBI has been trading at 800 in the spot market but it is trading at 790 rupees in the future market. Now ideally in the future market

market. Now ideally in the future market the stock is supposed to be trading at a higher value. But when you see such

higher value. But when you see such mispricing there is an opportunity of arbitrage. The idea is simple. Sell the

arbitrage. The idea is simple. Sell the

spot at 800 and buy the future at 790.

On expiry the future cost to carry becomes zero. the futures price and the

becomes zero. the futures price and the spots price becomes the same and that is how you can make a riskless profit of 7500 rupees. So basically you will make

7500 rupees. So basically you will make riskless profit of the difference between the spot and the future price that is rupees 10. For example, one

future lot of SBI is 750 shares. So you

buy one lot of futures of 750 and you sell 750 shares and that is how you will be able to make a profit of 7500 rupees.

Such an arbitrage where you sell the spot and buy the future is called reverse arbitrage. Here is the problem

reverse arbitrage. Here is the problem though. You can buy the future but how

though. You can buy the future but how can you sell a stock that you don't already own? In such a case you will not

already own? In such a case you will not be able to participate in the reverse arbitrage trade. That is where SLBM

arbitrage trade. That is where SLBM comes to the rescue. In this case, you can borrow those shares from the lender, make the reverse arbitrage trade and

later on give those shares back to the lender. However, there are two risks to

lender. However, there are two risks to the borrower as well. Number one is what if the price of the stock goes up instead of going down. This way, the

borrower does not only lose the money in the market but also has to pay lending fee to the lender. And number two is the risk of foreclosure. The foreclosure can

happen because either of the two reason one if the lender recalls the order or second in case any corporate action is announced. In such a case the market

announced. In such a case the market might not be in the favor of borrower and when the foreclosure of the contract happens in that case borrower might lose money in the market. Also like the

lender had the recall option, the borrower has a repay option wherein they can return the shares to the exchange even before the expiry of the contract.

When the shares are returned, the exchange will reverse the margin amount.

Talking about the margin, the borrower has to maintain a margin before they can initiate the SLBM transaction. Ideally,

they have to maintain a margin of 125% of the value of the stock. For example,

100 SBI shares trading at 800. So the

value of the stock is 80,000 rupees. So

borrower which is MRA has to maintain a margin of 125% which is 1 lak rupees.

But ideally mira only has to maintain a margin of 25%. Let me tell you how. See

when Mina borrows the share and later on when she is going to sell them in the market immediately she will get those 80,000 rupees back which means she only has to maintain 20,000 in her account.

Now coming to the additional features number one is about taxation from lender's perspective since the shares are temporarily transferred from one demat account to another. Therefore they

look like a sale transaction but it is actually not because the shares are returned to the lender. Therefore, in

this case, lender is not liable for any capital gain tax. But whatever income the lender is earning via the lending fee is treated as income from other

sources and will be taxed accordingly.

Now, talking about the borrower, when they borrow the shares and then they sell and buy in the market, whatever money they make in this process, they will be liable for the capital gain tax.

Now coming to feature number two is about charges. So no SCT charges, no

about charges. So no SCT charges, no stamp duty charges, no transaction charge and no sebi turnover charges. But

brokers do charge commission on the transaction. The commission could be

transaction. The commission could be different from broker to broker. One

such broker charges a commission of 20% on the lending or borrowing fee plus 18% GST. To give you an example, those 100

GST. To give you an example, those 100 SBI shares where price was 800 rupees, the order value comes to 80,000 but the commission is not charged on this

number. The lending fee is 8 per share

number. The lending fee is 8 per share and the total lending fee was 800 rupees. So now the commission is charged

rupees. So now the commission is charged on this 800 rupees which is 160 plus 18% GST which is 28.8. Therefore AJ will not

be getting the gain of 800 rupees. But

after settling down all the commission charges, he will get 611.2 rupees as his gain. Coming to the feature number three is about returns.

The returns depend upon the demand. For

the popular stocks, you can demand a lending fee of between.5 to 1% which comes down to 6 to 12% annually passively by the stocks that you already

own. However, there is a catch and

own. However, there is a catch and that's feature number four about volume.

There are enough lenders in the market but there aren't many borrowers in the market. The borrowers are increasing but

market. The borrowers are increasing but not by that much amount. Therefore, it

can be difficult to consistently earn 0.5 to 1% on monthly basis because of demand and liquidity problem. Okay. By

now, if you're wondering how to place SLBM orders, is there a terminal like the way we put orders for our normal stocks? Then let me tell you there is no

stocks? Then let me tell you there is no such terminal where you can place your SLBM trades. You can actually check the

SLBM trades. You can actually check the SLBM prices on NE's website and then you can approach your broker which will help you place your orders for the SLBM

transaction. The SLBM market is open

transaction. The SLBM market is open from 9:15 a.m. in the morning to 5:00 p.m. in the evening. So since the orders

p.m. in the evening. So since the orders are directly placed by the brokers, you need to contact your broker for more detailed information. Largely this is

detailed information. Largely this is how SLBM works but there could be nuances that are specific to a broker.

So do discuss with them. Lastly now

let's come to the things that you need to remember. Number one SLBM is only

to remember. Number one SLBM is only available for selected stocks approved by SEBI. Number two are fixed. So you

by SEBI. Number two are fixed. So you

can't exit midway unless you place an early recall and even that is not guaranteed. Number three, SLBM is ideal

guaranteed. Number three, SLBM is ideal for long-term investors who don't trade frequently. And number four, lending fee

frequently. And number four, lending fee are taxable as income. So SLBM is a low-risk passive income opportunity for long-term investors. It will not make

long-term investors. It will not make you rich overnight, but it is a smart way to earn income from the stocks that you already plan to hold. I hope you like this detailed explainer. See you in

the next video. Till then, happy investing.