Securities Lending and Borrowing Framework

A Summer Project Proposal for Bombay Stock Exchange (BSE)

Post-Graduate Diploma in Management - Finance

By

Anup Agrawal – 09FN-003

Under the guidance of

Dr. Sayee Srinivasan Dr. Alok Pandey

Head Product Strategy Associate Professor
Bombay Stock Exchange IMT, Ghaziabad
Mumbai

IMT

04 June 2010
Securities Lending and Borrowing Framework

By

Anup Agrawal – 09FN-003

IMT

April-June, 2010
 Securities Lending and Borrowing Framework

By

Anup Agrawal

Under the guidance of

Dr. Sayee Srinivasan Dr. Alok Pandey

Head Product Strategy Associate Professor
Bombay Stock Exchange IMT, Ghaziabad
Mumbai

IMT

Apr-Jun, 2010
 1 Acknowledgement

I would like to thank Dr. Sayee Srinivasan for giving me an opportunity to work for Bombay Stock
Exchange. I would also like to thank him for continuous guidance and support throughout the project. I
appreciate him probing questions which forced me to think sharper and get more focused about our topic.
Especially, I want to thank him for guiding me in using various analysis techniques.
I would also like to thank Dr. Alok Pandey for his continuous support during the project. His
knowledge impartation of Risk Management and how Derivatives segment will affect Securities Lending
and Borrowing helped me to design and implement in a better way.
Special thanks to Shikha Singh and Yogesh Sundaram for helping me in understanding the Business
Development and Design aspects of the SLB Framework. Also I would like to Surendra Rashinkar for
helping me understand as how clearing and settlement of SLB transactions will take place.
Last but not the least I would like to thank everybody who has directly or indirectly assisted me in
dealing with this project and making it a great learning aspect for me.

Regards,
Anup Agrawal
PGDM Finance,
09FN-003,
IMT Ghaziabad.
 Abstract

Short selling – the sale of a security that the seller does not own – is one of the long-standing
market practices, which has often been the subject of considerable debate and divergent views in most of
the securities market across the world. The short selling needs to be covered on an intraday basis in
Indian Market. To overcome this SEBI started with Securities Lending and Borrowing Scheme where a
Borrower can bring securities at a certain Lending price and from a lender to cover his positions or to
hedge his risks.
The project aimed at understanding the Securities Lending and Borrowing scheme in India. How
the current framework need to be evolved to make it more friendly and easy for investors. The major
aspect was implementation of the SLB framework at Bombay Stock Exchange keeping in mind the Risk
management, Default Handling and liquidity aspects. Also the project aimed at understanding the
International Practices and frameworks of Securities Lending and Borrowing in different countries and
their utilization ratios.
Securities Lending and Borrowing markets allow market participants to sell securities that they do
not own in the confidence that they can be borrowed prior to settlement. They are also used for financing,
through the lending of securities against cash, forming an important part of the money markets. The
ability to lend and borrow securities freely underpins the services that securities dealers offer their
customers and the trading strategies of dealers, hedge funds and other asset managers. On the lending
side, securities lending forms a growing part of the revenue of institutional investors, custodian banks and
the prime brokerage arms of investment banks. Basically SLB in an Over the Counter Market. SEBI
decided to make it a Trading Platform for Indian context. Securities lending and borrowing describes the
market practice by which, for a fee, securities are transferred temporarily from one party, the lender, to
another, the borrower; the borrower is obliged to return them either on demand or at the end of any
agreed term. The responsibilities are more in of Clearing Houses and Approved Intermediary in case of
SLB framework.
The project aims to describe these markets, with an emphasis towards the Indian Market and more
specifically towards Implementation of Securities Lending and Borrowing at Bombay Stock Exchange.
Conclusions and Recommendation towards implementation of a more efficient market practice and
transparency with wider scope of the product are discussed.
 Table of Contents

1Acknowledgement....................................................................................................6

Abstract......................................................................................................................7

Table of Contents.......................................................................................................8

1Introduction..............................................................................................................9

1Terminologies in SLB Market...............................................................................12

2Lender’s Motivation.............................................................................................12

3Borrower’s Motivation.........................................................................................13

2How does SLB market Work...................................................................................15

4Market Participants:............................................................................................15

5The Transaction.................................................................................................. 16

International Practices in SLB...................................................................................18

6PASLA: Pan Asian Securities Lending Association...............................................18

7ISLA: International Securities Lending Association..............................................19

8US Equities:......................................................................................................... 20

9Singapore Stock Exchange:.................................................................................21

3Securities and Lending Framework in India............................................................22

4Implementation of SLB at BSE................................................................................30

10Eligibility:.......................................................................................................... 30

11Eligible Securities:.............................................................................................30

12Clearing and Settlement:..................................................................................30

13Position Limits:..................................................................................................32

14Collateral Deposits:...........................................................................................32

5Revival of SLB by SEBI............................................................................................37

6Upgradation of SLB at BSE:....................................................................................38

15Change in timings:............................................................................................38
 16Contract Cycle and Expiration:..........................................................................38

17Modified Settlement Cycle:...............................................................................38

18Margin Requirements:.......................................................................................39

19Early RECALL Transactions:...............................................................................39

20Early RETURN Transactions:..............................................................................40

21Examples and Default Handling:.......................................................................40

22Corporate Actions:............................................................................................45

7Conclusions:...........................................................................................................46

8Recommendations:................................................................................................47

9References:............................................................................................................48

1 Introduction
 Short selling – the sale of a security that the seller does not own – is one of the long-standing
market practices, which has often been the subject of considerable debate and divergent views in most of
the securities market across the world. The votaries of short selling consider it as a desirable and an
essential feature of a securities market. The critics of short selling on the other hand are convinced that
short selling, directly or indirectly, poses potential risks and can easily destabilise the market. In an
efficient futures market, the relationship between spot price and futures price of the underlying asset is
governed by cash-and-carry arbitrage and reverse cash and carry arbitrage. The latter requires that traders
should be able to sell the underlying security short unless of course there is enough number of traders
who own the security and are able to sell it cash to take advantage of too low a futures price. It is
noteworthy though, that despite the conflicting schools of thought, securities market regulators in most
countries and in particular, in all developed securities markets, recognise short selling as a legitimate
investment activity. Such jurisdictions also have an active market for equity derivatives which includes
stock futures. Some of the jurisdictions even recognise the usefulness of naked short sales in certain
circumstances and instead of prohibiting short sales; the regulators have permitted it to take place within
a regulated framework. The International Organisation of Securities Commissions (IOSCO) has also
reviewed short selling and securities lending practices across markets and has recommended transparency
of short selling, rather than prohibit it. A vibrant securities market should necessarily provide for lending
and borrowing of securities. Securities markets all over the world, mostly, have an active market for
securities lending and borrowing scheme, which besides complimenting short selling in securities also
enable the investors to earn returns on their idle securities. Vibrant securities lending and borrowing
scheme is, therefore, considered necessary to provide sufficient impetus for short selling. Presently, there
is no prohibition on short selling by retail investors. The “Institutional investors” viz. the mutual funds
and the Foreign Institutional Investors (FIIs) registered with SEBI, banks and insurance companies are
expressly prohibited under the respective regulations from short selling and are mandatorily required to
settle on the basis of deliveries of securities owned and held by them. International securities market
regulators have, therefore, permitted short selling with adequate safeguards to prevent any
abusive/manipulative market practices. Similar issues may arise in the Indian context also. Genuine short
selling could exacerbate price decline but that by itself may not be construed as a manipulative activity
unless there are evidences of market misconduct. However, abusive short selling practices to manipulate
the price of a stock will continue to be treated as market misconduct and attract appropriate regulatory
action.
The FSA is of the view that short selling is not in itself manipulative. Rather, [FSA] sees it as a
valid investment practice that, in essence, represents the opposite of taking a long position. Because of
the regulatory restrictions in the Indian markets which have enabled only retail investors to short sell,
there is no level playing field between various classes of investors. There was a need to bridge this gap
and provide equal leveraging opportunities for all classes of investors. The present regulatory restrictions
which allow only the retail investors to short sell should be removed to enable a level playing field for all
classes of investors. In other words, the institutional investors who are currently prohibited should be
permitted to short sell. Thus vibrant securities lending and borrowing scheme is, therefore, considered
necessary to provide sufficient impetus for covered short selling. In this context, the securities lending
scheme of 1997 (SLS, 1997) as inoperative and was not active in the Indian securities market.
Securities’ Lending and Borrowing: – the temporary transfer of securities on a collateralised
basis – is a major and growing activity providing significant benefits for issuers, investors and traders
alike. These are likely to include improved market liquidity, more efficient settlement, tighter dealer
prices and perhaps a reduction in the cost of capital. The scale of securities lending and borrowing
globally is difficult to estimate, as it is an ‘over the counter’ rather than an exchange-traded market.
However, it is safe to say that the balance of securities on loan globally exceeds £3 trillion. Securities
lending began as an informal practice among brokers who had insufficient share certificates to settle their
sold bargains, commonly because their selling clients had mislaid their certificates or just not provided
them to the broker by the settlement date of the transaction. Once the broker had received the certificates,
they would be passed on to the lending broker. This business arrangement was not subject to any formal
agreement and there was no exchange of collateral. Securities lending is now an important and significant
business that describes the market practice whereby securities are temporarily transferred by one party
(the lender) to another (the borrower). The borrower is obliged to return the securities to the lender, either
on demand or at the end of any agreed term. Securities lending today plays a major part in the efficient
functioning of the securities markets worldwide. Yet it remains poorly understood by many of those
outside the market.
Securities lending and borrowing describes the market practice by which, for a fee, securities are
transferred temporarily from one party, the lender, to another, the borrower; the borrower is obliged to
return them either on demand or at the end of any agreed term. However, the word ‘lending’ is in some
ways misleading. In law the transaction is in fact an absolute transfer of title (sale) against an undertaking
to return equivalent securities. Usually the borrower will collateralise the transaction with cash or other
securities of equal or greater value than the lent securities in order to protect the lender against
counterpart credit risk. In the simplest of terms a securities lending transaction is a temporary loan of
securities between Lender & Borrower. The borrower will provide the lender collateral – cash, non cash
(Fixed Deposits, Commercial Papers, G-Securities, Bonds,). For the privilege of borrowing the stock, the
borrower pays a fee to the lender. Thus the lender continues to receive all the economic benefit of the
security - market performance, entitlement etc. By lending his securities, the lender can earn low risk
incremental income from his investment portfolio - utilizing otherwise idle stock. Borrower’s borrow for
a variety of reasons and generally to support a trading strategy or settlement obligation to the
market.

1 Terminologies in SLB Market

a) “Lender” means a person who deposits the securities registered in his name or in the name of any
other person duly authorised on his behalf with an approved intermediary for the purpose of lending
under the scheme.
b) “Borrower” means a person who borrows the securities under the scheme through an approved
intermediary.
c) “Approved Intermediary or Clearing House” means a person duly registered by the Board under
the guidelines/scheme through whom the lender will deposit the securities for lending and the
borrower will borrow the securities.
d) “Securities” has the meaning assigned to it in Section 2 of the Securities Contracts (Regulation) Act,
1956.
e) “Corporate Benefits” shall include dividends (gross), rights, bonus, redemption benefits, interest, or
any other right or benefit accruing on the securities lent.
f) “Expiration Date” means the date on which the Borrower will return till the securities to the Lender.
g) “Early Recall” means the Lender of Securities has ask for termination of contract before the
expiration date.
h) “Early Return” means the Borrower has returned the securities to the Approved
Intermediary/Clearing House before the expiration date of the contract.

2 Lender’s Motivation
The supply of securities into the lending market comes mainly from the portfolios of beneficial owners,
such as pension and other funds, and insurance companies. Underlying demand to borrow securities
begins largely with the trading activities of dealers and hedge funds. Also there are a number of
Institutional Investors. The importance of Institutions in the market partly reflects the fact that securities
lending is a secondary activity for many of the beneficial owners and underlying borrowers. Institutions
provide valuable services, such as credit enhancement and the provision of liquidity, by being willing to
borrow securities at call while lending them for term. They also benefit from economies of scale,
including the significant investment in technology required to run a modern operation. Institutional
investors include custodian banks and asset managers lending securities as agents on behalf of beneficial
owners, alongside the other services provided to these clients. Some specialist securities lending agents
have also emerged. Agents agree to split securities lending revenues with lenders and may offer
indemnities against certain risks, such as borrower default. Another category of intermediary is dealers
trading as principals. Dealers intermediate between lenders and borrowers, but they also use the market to
finance their own wider securities trading activities. They may seek returns by taking collateral,
counterpart credit or liquidity risk, for example, by lending securities to a client for a period while
borrowing them on an open basis with a risk of early recall by the lender. Through their prime brokerage
operations, they also meet the needs of hedge funds and the borrowing of securities to finance their
positions has grown rapidly. For beneficial owners, there are a number of different possible routes into
the market. These include using an agent (custodian bank, asset manager or specialist) to manage a
lending programme, auctioning a portfolio to borrowers directly, selecting one principal borrower,
establishing an ‘in-house’ operation and lending directly or some combination of these strategies.

3 Borrower’s Motivation
The most common reasons behind the borrowing of securities worldwide are different. Some most
common reasons can be grouped into three broad categories. These categories are as mentioned below:
1. To cover a short position (settlement coverage, naked shorting, market making, and arbitrage
trading).
2. As part of a financing transaction motivated by the desire to lend cash.
3. To transfer ownership temporarily to the advantage of both lender and borrower (tax arbitrage,
dividend reinvestment plan arbitrage).

I. Borrowing to Cover Short Positions:

a) Settlement coverage: Historically, settlement coverage has played a significant part in the
development of the securities lending market. Going back a decade or so, most securities lending
businesses were located in the back offices of their organisations and were not properly
recognised as businesses in their own right. Particularly for less liquid securities – such as
corporate bonds and equities with a limit free float – settlement coverage remains a large part of
the demand to borrow. The ability to borrow to avoid settlement failure is vital to ensure efficient
settlement and has encouraged many securities depositories into the automated lending business.
This means that they remunerate customers for making their securities available to be lent by the
depository automatically in order to avert any settlement failures.
 b) Naked shorting: Naked shorting can be defined as borrowing securities in order to sell them in
the expectation that they can be bought back at a lower price in order to return them to the lender.
Naked shorting is a directional strategy, speculating that prices will fall, rather than a part of a
wider trading strategy, usually involving a corresponding long position in a related security.
Naked shorting is a high-risk strategy. Although some funds specialise in taking short positions
in the shares of companies they judge to be overvalued, the number of funds relying on naked
shorting is relatively small and probably declining.
c) Market making: Market makers play a central role in the provision of two-way price liquidity in
many securities markets around the world. They need to be able to borrow securities in order to
settle ‘buy orders’ from customers and to make tight, two-way prices. The ability to make
markets in illiquid small capitalisation securities is sometimes hampered by a lack of access to
borrowing and some of the specialists in these less liquid securities have put in place special
arrangements to enable them to gain access to securities. These include guaranteed exclusive bids
with securities lenders. The character of borrowing is typically short term for an unknown period
of time. The need to know that a loan is available tends to mean that the level of communication
between market makers and the securities lending business has to be highly automated. A market
maker that goes short and then finds that there is no loan available would have to buy that
security back to flatten its book.
d) Arbitrage trading: Securities are often borrowed to cover a short position in one security that
has been taken to hedge a long position in another as part of an ‘arbitrage’ strategy.

II. Financing: As broker dealers build derivative prime brokerage and customer margin business,
they hold an increasing inventory of securities that requires financing. This type of activity is
high volume and takes place between two counterparts that have the following coincidence of
wants: One has cash that they would like to invest on a secured basis and pick up yield and the
other has inventory that needs to be financed. In the case of bonds, the typical financing
transaction is a repo or buy/sell back. But for equities, securities lending and equity repo
transactions are used. Tri Party Agents are often involved in this type of financing transaction as
they can reduce operational costs for the cash lender and they have the settlement capabilities the
cash borrower needs to substitute securities collateral as their inventory changes.

III. Temporary Transfer of Ownership: This is with regards to some Corporate Actions and
Voting Rights.
2 How does SLB market Work

From its initial "back room" roots, securities lending has become an integral part of the capital
markets. The business, which originated in the United States in the early 80's, has expanded rapidly in
recent years and is now a 24 hour global activity. Securities lending adds liquidity and efficiency to the
market place and supports trading activities/strategies in all major markets, as well as some of the
emerging markets Securities lending provides the lender of securities with a low risk yield enhancement
to his portfolio, while enabling the borrower to cover failed trades and to hedge/ arbitrage in the market.

4 Market Participants:
The market participants can be broadly classified in three categories Lender, Intermediaries and
Borrowers. Normally Lenders are Pension Fund managers, Insurance Companies and big companies who
already own huge stakes in other companies. The reason for their participation is mainly maximizing
return and revenue on portfolio. The Borrowers are mainly Hedge Fund Companies, Mutual funds and
Proprietary Traders. The reasons for borrowing are explained earlier i.e. avoidance of settlement failure,
short selling, arbitrage strategies and short-long strategies. Intermediaries are clearing houses and
participants which help these transactions to take place smoothly, assure the risk associated with the
contracts taking place and see that the obligations from both party are fulfilled. The figure below
summarises the market participants:
5 The Transaction
In very simple terms, securities lending and borrowing (SLB) transaction involves the temporary
loan of securities by a lender to a borrower. The reasons why a borrower needs to borrow securities vary,
but generally securities are needed to support a trading strategy or a settlement obligation. As a SLB
transaction is entered into, the borrower provides collateral to the lender. Collateral can be in the form of
cash or non-cash (e.g. letter of credit) and must be equal to or greater than the market value of the
securities borrowed. On receipt of collateral, the lender will then deliver the securities to the borrower.
Throughout the life of the loan, the market value of the loaned stock will fluctuate. To maintain sufficient
levels of collateralisation for open loans, a daily mark to market is done and the amount of collateral is
increased or decreased accordingly. When it is time to close the loan, the borrower returns the securities
to the lender. Once the lender receives the securities, he then returns the collateral to the borrower which
was kept with the lender at the start of the contract. Normally the agreement is not between the Lender
and borrower directly. It is between the lender and Agent Lender and from Borrower side between the
Borrower and Agent Lender/Broker. The below figure summarises the above statement:

As seen from the above figure the beneficiary owner enters into an agreement with the Agent Lender. The
Agent Lender finds Borrower for the securities with the help of Broker/Dealer. After an appropriate
match is found the collateral and lending fees is transferred to the Lender. After reception of collateral the
securities are transferred to the Borrower. The securities are Mark to Market daily and amount of
collateral is increased or decreased accordingly.
Borrowing/Lending Fee:
The borrower pays a fee to the lender for the use of the borrowed securities. The lender will charge a
fee to the borrower for the lend securities. This fee is known as the Lending Fees or in some international
practices as the Borrowing Fees since Borrower needs to pay this Fee. This Fee can be some percentage
of the Value of underlying Asset which is lent. It may be a demand and supply determined in the SLB
transactions in the market. There are different variations in International Practices as to how the Lending
Fees is calculated and earned by the Lender.

Delivery of Collateral:
The borrower must have collateral in place with the lender at the same time as or prior to the
delivery of the securities. Normally there is a one day pre-pay (i.e. the borrower gives the collateral to the
lender one day before contractual settlement of the loan). The purpose of the pre-pay is that it allows the
lender to cancel the delivery instruction prior to the delivery of the stock in the event that collateral is not
received. Delivery versus payment, also called DVP, may only be available in certain markets and is
most common when collateral is pledged in the same currency as the loaned stock. The practices differ in
different international markets. The collaterals can be of different types. They can be in cash or non-cash
items too.
 International Practices in SLB

6 PASLA: Pan Asian Securities Lending Association

PASLA was incorporated in Hong Kong in 1995, and is an association of firms that are active in the
business of borrowing and/or lending securities of Asian markets. Currently PASLA has 59 members
from 19 lenders, 33 borrowers, 2 alternative investment funds, and 5 other who are domiciled across five
continents. PASLA Membership is open to both "international" firms, which are active in several
markets, and "local" firms, which are active primarily in their home market. Some of the members are JP
Morgan, HSBC, Goldman Sachs Macquarie, ING, State Street, Northern Trust etc.
Securities borrowing and lending is a very competitive business. While individual firms involved in
the business may have their own unique marketing and business development strategies in Asia, the
member firms believe that PASLA, as a collective group of major firms in the industry, provides an
important benefit to Asian securities regulators, stock exchanges, and monetary authorities by providing
an "industry consensus" on issues that affect the development of the securities lending business.
PASLA regularly conducts seminars and round-tables with regulatory authorities and market
participants in the local markets. This has proved to be a successful formula by providing an open forum
for discussion and exchange of information. Although Japan is the largest regional SBL market and the
oldest-established, since Hong Kong is the regional headquarters for many financial firms, it is easy for
borrowers and lenders to meet there and resolve any issues; moreover, the credibility of counterparties in
Hong Kong is high.
The SBL business of PASLA has a similar profile to the business globally, as described in the
preceding section. The major PASLA-based agent lenders operate their SBL business through a 24-hour
global booking system via their offices in different time zones. They pool securities from investors such
as US or European pension funds, and insurance companies, and lend to borrowers who are mainly the
major brokers and investment banks. These parties in turn may be borrowing for their own account, or
more often on behalf of their clients, such as hedge funds or smaller brokers, on whose behalf they accept
counterparty risk. Thus smaller borrowers, to whom the lenders' fund clients would not want to be
exposed, can nonetheless participate in SBL transactions. Some lenders take collateral only in US dollars.
Fees for a large deal are typically around 25 basis points, the agent lender and the client (stock
owner) sharing the fee in perhaps a 7:3 ratio. Deals are rarely below US$100,000, but sometimes smaller
deals will be done in less liquid stock (i.e. for which there is little available for lending) at higher
margins. The collateral amounts are normally 102%-105% of the total value of the underlying assets. The
voting rights are transferred to the borrower. The dividends are paid at the end of the transactions by the
Borrower to the Lenders.
 The table below shows the Asian Securities Lending market and the utilization of that market.

7 ISLA: International Securities Lending Association

The International Securities Lending Association (ISLA) is a trade association established in
1989 to represent the common interests of participants in the securities lending industry. ISLA works
closely with European regulators and in the United Kingdom has representation on the Securities Lending
and Repo Committee, a committee of market practitioners chaired by the Bank of England. The
Association has contributed to a number of major market initiatives, including the development of the UK
Securities Borrowing and Lending Code of Guidance and the industry-standard lending agreement, the
Global Master Securities Lending Agreement (GMSLA). ISLA has more than 100 full and associate
members comprising insurance companies, pension funds, asset managers, banks, securities dealers and
service providers representing more than 4,000 clients. While based in London, ISLA represents
members from more than twenty countries in Europe, the Middle East, Africa and North America.
The practices are the same are mentioned above. Some differences in the collateral amounts and
assets underlying are different. ISLA has a set-off protocol along with GMSLA. In case of Failure to
deliver equivalent securities or collateral is no longer an event of default. Rather the other party may
choose to terminate that loan of those particular securities (a so-called ‘mini close-out’). The party that
fails to deliver the securities is then liable for any costs incurred by the other party in relation to interest,
overdrafts or other expenses or if a buy-in is exercised against it by a third party. The various
clarifications about the taxes issues and corporate actions are provided by the ISLA in their documents.

8 US Equities:
The US equity market is the largest securities lending forum in the world, accounting for over
48% of all trades, according to Data Explorers. At the end of 2009 there were more than $3 trillion (€2.2
trillion) in securities available for loan in the US. A total of $320bn was on loan at the end of last year.
The US model mainly uses cash collateral as security against the loan. This cash is usually reinvested into
relatively liquid, low-risk money market funds in the hope of returning a profit. The model had worked
well until the financial crisis hit when some funds turned out to be invested in debt instruments that
became not tradable. As a result, lenders were unable to liquidate their positions, return collateral, and get
their own securities back. This problem mainly occurred for those in pooled funds who all ran for the
door at the same moment. Many custodians and lending agents now offer segregated mandates to avoid
the problem occurring again. The table below illustrates the market size and the utilization aspects:

As the table shows at the end of year the market was at USD 3.155tn. The borrowings of securities
increased from USD 270bn to USD 320bn but utilization dropped year on year from 11.49% to 9.69%.
Overall fees rose by 5 basis point to average 67.83 basis point. The outlook from the market is for one
that will focus more on intrinsic lending at the appropriate fee rather than depending upon cash re-
investment and the leveraging of difficult to borrow securities into large balances of easy to borrow
securities. Inter broker lending and “box” lending of margin and fully paid for securities will continue to
increase in importance. The embryonic moves to exchange traded securities lending will probably take
hold in the US before they do so anywhere else –time will tell. Against such a backdrop the market waits
to see what the SEC will do. Doing nothing does not seem to be a likely option and whatever they change
it will have ramifications for the US and other markets.

9 Singapore Stock Exchange:

The main objective of SGX's SBL programme is to improve liquidity of the stocks traded on the
SGX. The programme was launched in January 2002 by SGX's subsidiary, Central Depository (CDP).
The account structure of CDP is the foundation of the SBL programme. The stocks from a large number
of direct securities accounts provide a steady supply to the lending pool. CDP acts as the principal to both
borrowers and lenders. The borrowers and lenders remain mutually anonymous. CDP collects collateral
from the borrowers but does not pass it on the lenders. For cash collateral provided by the borrowers,
CDP will pass back the interest to them at a lower rate. The direct securities account holders are the major
lenders. Currently, about 6,000 direct securities account holders have signed up to lend out their stocks.
They can specify to lend out (1) all stocks, (2) specific stocks only, or (3) specific stocks with maximum
quantities only. The stocks remain in the accounts of the potential lenders. CDP uses a separate system to
keep track of the lending pool. Stock movements are only required for executed SBL loans and recalls.
SGX brokers are the major borrowers. A majority of them have participated in the programme. Most of
their loans are on second- and third-liners for retail trades. The loan sizes are usually small with average
of 60,000 to 70,000 shares per transaction. The custodians seldom participate because they have their
own lending desks and are not interested in the small deals. The 200 stocks with the highest transaction
volumes are eligible for the programme, and the minimum borrowing size is 1,000 units. Fees are fixed -
borrowers pay 6 per cent and lenders get 4 per cent. CDP has implemented various risks management
measures on the price risks and concentration risks for the outstanding loans and the collateral. However,
it is up to the borrowing brokers to monitor the risks of their clients. The transaction volume of the SBL
programme has been low. It is difficult to attract investors to participate. Borrowers see the programme as
a complement to the OTC market. They will usually obtain large loans for blue chips through the OTC
market and small loans or loans for second- or third-liners from CDP. It is difficult for CDP to compete
with the OTC market on the pricing and services. Short-selling activity is not robust in Singapore, which
is a further reason for the low demand for SBL loans.
3 Securities and Lending Framework in India

SEBI provided the circular for the SLB Scheme in 1997. The definitions for the scheme context were
specified and the scheme was also circularized. The SLB scheme was as follows:

1) The lender shall enter into an agreement with the approved intermediary for depositing the
securities for the purpose of lending through approved intermediary as per the scheme and the
borrower shall enter into an agreement with the approved intermediary for the purpose of borrowing
of securities and as such there shall be no direct agreement between the lender and the borrower for
the lending or borrowing of securities.
2) The agreement between the lender and the approved intermediary shall provide that when the
lender has deposited the securities with the approved intermediary under the scheme, the beneficial
interest shall continue to remain with the lender and all the corporate benefits shall accrue to the
lender. The lender shall be entitled to deposit only those securities registered in his name or in the
name of any other person duly authorised on his behalf with the ‘approved intermediary’ for the
purpose of lending.
3) The lending of securities under the scheme through an approved intermediary and the return of
the equivalent securities of the same type and class by the borrower shall not be treated as disposal of
the securities.
4) The approved intermediary shall unless otherwise provided in the agreement with the lender,
guarantee the return of the equivalent securities of the same type and class to the lender along with the
corporate benefits accrued on them during the tenure of the borrowing. Even in case of failure of the
borrower to return the securities or corporate benefits the approved intermediary shall be liable for
making good the loss caused to the lender.
5) The approved intermediary may retain the securities deposited by the lender in its custody as a
trustee on behalf of the lender.
6) The approved intermediary shall in accordance with the terms of the agreement entered into with
the lender, be entitled to lend the securities deposited by the lender to the borrower from time to time.
7) Under the scheme, the title of the securities lent to the borrower shall vest with the borrower and
the borrower shall be entitled to deal with or dispose of the securities borrowed in any manner
whatsoever.
8) The agreement between the borrower and the approved intermediary shall inter- alia provide that
the borrower shall have an obligation to return, the equivalent number of securities of the same type
and class borrowed, to the approved intermediary within the time specified in the agreement along
with all the corporate benefits which have accrued thereon during the period of borrowing.
 9) The agreement between the lender and the approved intermediary and the borrower and the
approved intermediary, shall also provide for the following terms and conditions:-
a. The period of depositing/lending of securities.
b. Charges or fees for depositing/lending and borrowing.
c. Collateral securities for borrowing.
d. Provisions for the return including premature return of the securities deposited or lent
and;
e. Mechanism for resolution of the disputes through arbitration.
10) The borrower shall not be entitled to discharge his liabilities of returning the equivalent securities
through payment in cash or kind.
11) The approved intermediary shall be entitled to receive from the borrower collateral security and
fees for lending the securities.
12) The borrower shall deposit the collateral securities with the approved intermediary in the form of
cash, bank guarantee, Government securities or certificate of deposits or other securities as may be
agreed upon with the approved intermediary for the purpose of ensuring the return of the securities.
13) When the approved intermediary returns securities to the lender, the approved intermediary shall
issue a receipt to the lender.
14) The approved intermediary shall maintain a complete record of the securities deposited by the
lender, securities lent to the borrower, the securities received from the borrower and the securities
returned to the lender by the approved intermediary.
15) In the event of the failure of the borrower to return the securities in terms of the agreement, the
borrower shall become a defaulter and the approved intermediary shall have the right to liquidate the
collateral deposited with it, in order to purchase from the market the equivalent securities of the same
class and type for purpose of returning the equivalent securities to the lender. The approved
intermediary shall be entitled to take any action as deemed appropriate against the defaulting borrower
to make good its loss, if any.
16) The approved intermediary shall notify defaults by any borrower to the Board, the concerned
stock exchange and the concerned authorities for initiation of appropriate action against the defaulter.

Though the scheme was introduced way before, major initiatives towards development of SLB
framework were taken in 2004. The Clearing House would require registering an approved intermediary
with SEBI under SEBI scheme for Securities Lending and Borrowing for handling settlement shortages.
The maximum permissible time frame for expiration was 7 days. In case of default in selling/delivering
clearing members securities the price would be 10% on the highest of the closing prices on the days from
the trading day and settlement day. The market players were not happy with the rules and this new
product. SEBI reviews its regulatory policies periodically. So SEBI set up a committee to review policy
on short sales and Securities Lending and Borrowing. The policy on short sales and securities lending and
borrowing were last reviewed by the Secondary Market Advisory Committee (SMAC) in 2003. The
SMAC again reviewed the policy in 2005. In view of the further developments taking place in the market
structure since then, in terms of institutionalisation of the market, participation of the retail investors,
enhanced participation by the foreign institutional investors, expansion of the derivatives market, another
review was considered necessary. Accordingly when the SMAC was reconstituted under the
Chairmanship of Professor P.G. Apte, Director of the Indian Institute of Management, Bangalore, SEBI
had sought the views of the SMAC, on the twin subjects of short selling and securities lending and
borrowing. The Discussion Paper was based on the deliberations of the Secondary Market Advisory
Committee. It reviewed the present policy on short selling and securities lending and borrowing in India,
examined the international practices and how securities market regulators in other countries had viewed
these and assessed the relevant issues of regulatory concern in the context of market confidence and
investor protection. The main recommendations of the committee were as follows:
1) The Committee noted that while international securities market regulators have recognised that
short selling can exacerbate market falls and may lead to manipulative activities, short selling has not
been prohibited. Indeed most of the jurisdictions have recognised short selling as a legitimate
investment activity that has contributed significantly to market liquidity. International securities
market regulators have, therefore, permitted short selling with adequate safeguards to prevent any
abusive/manipulative market practices. The Committee recognised that similar issues may arise in the
Indian context also. Genuine short selling could exacerbate price decline, but that by itself may not be
construed as a manipulative activity unless there are also evidences of market misconduct. However,
the Committee felt that abusive short selling practices to manipulate the price of a stock will continue
to be treated as market misconduct and attract appropriate regulatory action.
2) The Committee took note of the policy and practices in short sales in various jurisdictions and
was of the view that it would be necessary to enunciate a clear policy on short sales which would be in
sync with the present stage of market developments and the regulatory reforms in India. The
Committee, therefore, recommended that the present regulatory restrictions which allow only the retail
investors to short sell should be removed to enable a level playing field for all classes of investors. In
other words, the institutional investors who are currently prohibited should be permitted to short sell.
3) The Committee noted that the securities markets in which short selling if freely allowed also has
a vibrant securities lending and borrowing scheme. In the absence of vibrant market for securities
lending and borrowing, short selling may not work effectively. The Committee, therefore,
recommended that in the Indian securities market, a securities lending and borrowing scheme must be
put in place to provide the necessary impetus for short selling. The introduction of full-fledged
securities lending and borrowing scheme should be simultaneous with the introduction of short selling
by the institutional investors.
4) The Committee noted that while many international jurisdictions permit short sales in any
security, certain jurisdictions permit SLB only in designated securities which include securities in
which derivatives products were available, those which were constituents of the major market indices
etc. The underlying principle for the restriction seems to be to ensure that market participants do not
misuse short selling and SLB to distort the prices of illiquid stocks which are normally more prone to
volatility and manipulation. The Committee also noted that so far SEBI has been following a phased
approach when introducing any new policy. Such a phased approach has been useful. The Committee
therefore, recommended that to begin with, short selling and SLB may be permitted only in those
stocks in which derivative products are available. The Committee also recommended that the list of
stocks that are eligible for short selling transactions may be reviewed by SEBI from time to time.
5) The erstwhile SMAC had recommended that only clearing corporations and clearing houses
should be allowed to lend and borrow securities to meet settlement shortages. Such borrowing would
in other words help meet delivery requirement even for naked short sales. Accordingly, no entity other
than Clearing Corporation/Clearing House has been registered as an Approved Intermediaries (AIs)
for borrows and lend securities under the scheme. NSCCL, the clearing corporation of NSE and
BOISL, the clearing house of BSE have been registered as AIs for the purpose of borrowing and
lending securities to handle settlement shortages. NSCCL and BOISL have tied up with the
depositories to operationalise the securities lending and borrowing scheme. Individual investors would
be able to lend their idle securities. Pursuant to identification of securities shortages after pay-in, the
depositories would communicate the list of members who have an intention to lend securities to the
clearing corporation/house. Based on the requirement of securities, the clearing corporation/house
would match the extent of settlement shortages with the availability of securities, borrow the securities
on behalf of the default members, allot the same to the lenders on a random basis and communicate
the same back to the depositories.
6) The BSE and NSE are in the process of putting in place the necessary systems and are expected
to discontinue the auction mechanism and handle the settlement shortages by borrowing and lending
securities. In case the clearing corporation/house is unable to borrow, the transaction would be closed
out. This mechanism has not yet been implemented by the Clearing Corporation/House of the stock
exchanges.
7) While the present scheme of lending and borrowing securities in the Indian securities market by
the clearing corporation/house of the stock exchanges for handling settlement shortages addresses the
need for lending and borrowing in a limited way, there is no scope for investors to capitalize on the
demand for their securities in the market and thus, earn a return by lending such securities. Hence, the
scope of the existing securities lending and borrowing scheme must be widened into a full-fledged
lending and borrowing scheme enabling participation of all classes of investors, including retail
investors. Further, a full fledged securities lending and borrowing scheme is a significant regulatory
reform in any securities market to facilitate other market reforms like physical settlement in the
derivatives markets. Besides lending and borrowing of securities is necessary for covering short
positions in the market. Without lending and borrowing, the policy on short sales cannot be
implemented and physical settlement of stock derivatives cannot also take place. In the light of the
aforesaid factors, the issue of reviewing the regulatory policy on securities lending and borrowing was
taken up for deliberation by the present Committee. The Committee is however of the view that while
introduction of such a scheme was necessary in the present context of the market, a phased and
cautious approach would be appropriate in the initial stages.
8) The Committee was of the view that the lending and borrowing by the CC/CH only served a
limited purpose and a full- fledged lending and borrowing scheme that was open for all market
participants was necessary for the Indian securities market. The Committee therefore recommended
that apart from the lending and borrowing of securities by CC/CH for settlement shortages, a full-
fledged securities lending and borrowing scheme should be introduced by SEBI along with the Stock
exchanges through the Approved Intermediaries (AIs) route.
9) The Committee however preferred a cautious approach while permitting entities to act as AIs for
securities lending and borrowing scheme. The Committee, therefore, recommended that in the first
stage, only custodians, Banks and FIs may be registered as AIs for the purpose of lending and
borrowing of securities. Since it has been proposed to permit short selling in certain specific securities,
the Committee recommended that securities lending and borrowing may also be, initially, restricted
only in those stocks in which derivative products are available.
10) The lending and borrowing transactions are internationally executed pre-dominantly an OTC
market, or in house by the global custodians or depositories. But such OTC market’s suffer from lack
of transparency and thus do not address the need for centralized dissemination of information of such
lending and borrowing transactions. The Committee was, therefore, of the view that in order that it
would be desirable to allow securities lending and borrowing through an automated, screen-based
platform which would electronically match the demand and supply of securities. This would be
transparent and enable an audit trail of transactions in the process of securities lending and borrowing,
besides giving the advantages of speedier execution, and fair and automated discovery of prices. The
Committee, therefore, recommended that the lending and borrowing transactions may be executed on
an automated, screen-based platform which enables real time matching of the demand and supply.
Any trading member/investor who wishes to borrow securities may borrow the securities through the
screen.
11) The Committee also recommended that the Stock exchanges shall undertake the risk management
of such lending/borrowing transactions. As a part of the risk management, the clearing
corporation/house should guarantee the return of the securities by the borrower to the lender by being
the central counter party and shall, thus, provide guarantee for counter-party risk. The Committee
further recommended that the stock exchanges would jointly work out and put in place uniform
modalities for securities lending and borrowing which will also include the manner in which the
securities borrowed will be returned to the lender and the manner in which the exchanges will provide
the guarantee.
12) The Committee noted that international experience shows that securities markets which had an
active securities lending and borrowing scheme, had also framed their agreements between the various
parties which were similar or variants of model agreements provided by the Pan Asian Securities
Lender’s Association (PASLA). With a view to align the model agreements in the Indian securities
market with the internationally accepted standards, the Committee recommended that the lending and
borrowing transactions could be formalized in terms of robust lending and borrowing agreements on
the lines of the model agreements provided by PASLA which obligate the borrowers to return the
securities to the AI and agreements between the AI and the lender which enable the AI to allot the
lender’ securities to the borrowers at a screen determined price.

After the recommendations of the committee SEBI issued a circular recommending the suggestions of
the SMAC. In December 2007, SEBI issued a circular devising a regulatory framework for Securities
Lending and Borrowing. The regulatory Framework as below:
1) The SLB shall take place on an automated, screen based, order-matching platform which will be
provided by the AIs. This platform shall be independent of the other trading platforms.
2) All categories of investors including retail, institutional etc. will be permitted to borrow and lend
securities. The borrowers and lenders shall access the platform for lending/borrowing set up by the
AIs through the clearing members (CMs) (including banks and custodians) who are authorized by the
AIs in this regard.
3) The AIs, CMs and the clients shall enter into an agreement (which may have one or more parts)
specifying the rights, responsibilities and obligations of the parties to the agreement. The agreement
shall include the basic conditions for lending and borrowing of securities as prescribed under the
scheme. In addition to that, AIs may also include suitable conditions in the agreement to have proper
execution, risk management and settlement of lending and borrowing transactions with clearing
member and client. Given the nature of the client base, while the major responsibility of ensuring
compliance with “Know Your Client” (KYC) norms in respect of the clients rests with CMs, the exact
role of AIs/CMs vis-à-vis the clients in this regard needs to be elaborated in the aforesaid agreement
between the AI/CMs/clients. In this regard, there would be one master agreement with two individual
parts to the same. The first part of the agreement would be between the AIs and the CMs and the
second part of the agreement would be between the CMs and the clients. There would be adequate
cross referencing between the two parts of the agreement so that all the concerned parties, viz., the
AIs/CMs and the clients agree completely and are aware of all the provisions governing the SLB
transactions between them. However, there shall be no direct agreement between the lender and the
borrower. The CM will attach a certified copy of the first part of the agreement signed with the AI in
the second part of the agreement signed with each client. The model agreements in this regard would
be devised by the stock exchanges.
4) The AIs shall allot a unique ID to each client which shall be mapped to the Permanent Account
Number (PAN) of the respective clients. The AIs shall put in place appropriate systemic safeguards to
ensure that a client is not able to obtain multiple client IDs.
5) The tenure of lending/borrowing shall be fixed as standardised contracts. To start with, contracts
with tenure of 7 trading days may be introduced.
6) The settlement cycle for SLB transactions shall be on T+1 basis. The settlement of lending and
borrowing transactions shall be independent of normal market settlement.
7) The settlement of the lending and borrowing transactions shall be done on a gross basis at the
level of the clients i.e. no netting of transactions at any level will be permitted.
8) AIs would frame suitable risk management systems to guarantee delivery of securities to
borrower and return of securities to the lender. In the case of lender failing to deliver securities to the
AI or borrower failing to return securities to the AI, the AI shall conduct an auction for obtaining
securities. In the event of exceptional circumstances resulting in non-availability of securities in
auction, such transactions would be financially closed-out at appropriate rates, which may be more
than the rates applicable for the normal close-out of transactions, so as to act as a sufficient deterrent
against failure to deliver securities.
9) Adequate systems shall be put in place by the stock exchanges/Depositories to distinguish the
SLB transactions from the normal market transactions in the DeMAT system.
 10) AIs shall provide suitable arbitration mechanism for settling the disputes arising out of the SLB
transactions executed on the platform provided by them.
11) AIs shall disseminate in public domain, the details of SLB transactions executed on the platform
provided by them and the outstanding positions on a weekly basis. The frequency of such disclosure
may be reviewed from time to time with the approval of SEBI.

SEBI also issued a notice saying that the SLB platform to be operationalised from 1st April 2008 with a
contract cycle of 7 days. The contract cycle was extended upto 30 days.
4 Implementation of SLB at BSE

After the SEBI notice BSE implemented the SLB framework initially for 7 days and then extended
upto 30 days. A notice was issued by BOISL (BOI Shareholding Ltd) as to how the framework was as
under:

10 Eligibility:
1) All trading / clearing members of BSE as well as Banks and Custodians shall be eligible to
participate in SLBS, subject to fulfilment of the eligibility criteria specified by BOISL. For this
purpose they shall, inter alia, have to register as SLB Member in SLBS with BOISL as per the
registration procedure specified by BOISL.
2) SLB Member desirous of lending or borrowing securities under SLBS can do so either on their own
account or on behalf of their clients.
3) SLB Member shall be required to enter into an agreement with BOISL and the clients shall be
required to enter into back to back agreement with the SLB Member as per the formats specified by
BOISL.
4) The SLB Member shall apply to BOISL for allotment of Unique Client ID for each client who
desires to participate in SLBS.

11 Eligible Securities:
To begin with, the dematerialised securities traded in F & O Segment shall be eligible for lending
and borrowing under SLBS. BOISL shall from time to time announce the addition / removal of the
securities to / from the list of eligible securities. In case of Record Date or Closure of Register of
Members of a Company, the securities will not be allowed for lending and borrowing under the SLBS
during the period as may be decided by BOISL from time to time.

12 Clearing and Settlement:

1) The settlement obligations for transactions under SLBS will be on gross basis i.e. there shall be
no netting of transactions.
2) Following market types are to be used for giving instructions to the Depositories for securities
pay-in :

SLBS Pay-in Market Type

 For first leg pay-in of Securities (by lender) SLB
For return leg pay-in (return of borrowed SLB-R
securities by the borrower)
For pay-in of securities in SLB Auction Buy-in Auction

3) The pay-in and pay-out of funds and securities shall be through the designated clearing bank
account and securities settlement account respectively.

4) The Clearing Bank accounts currently used by members of BSE in Cash Segment (Equity
Market) shall be the designated bank account for settlement of funds obligations under the SLBS.
5) For securities DeMAT account the SLB Member may approach the depository participants in
respect of Pool / Principal Accounts for settlement of securities obligations under SLBS.
6) The transactions under SLBS shall be settled on a T+1 day basis as per time lines specified by
BOISL. The lender shall be required to deliver the securities by the scheduled time on T+1 day.
Failure to deliver securities shall result in financial close-out.
7) For a borrow transaction the settlement obligation shall be the lending fees plus the lending
price. The lending price shall be previous day’s closing price in Cash Segment of BSE.
8) To start with, tenure of lending shall be 30 trading days. Accordingly, the return of securities by
the borrower shall be scheduled on T+31 day (where T is the SLBS transaction day).
9) All SLB members shall be required to return the securities borrowed on completion of period of
lending. The securities shall be returned to the lender of the securities by BOISL. In the case of
borrower failing to return securities, BOISL shall conduct an auction for obtaining securities. In the
event of exceptional circumstances resulting in non-availability of securities in auction, such
transactions would be financially closed-out at appropriate rates. The close-out computation formula
shall be intimated by way of a circular.
10)BOISL shall specify the settlement calendar with respect to SLBS from time to time. A typical
settlement cycle for a lending and borrowing transaction shall be as under :
 Activities Timings
T Day
Securities Lending & Borrowing session 9:55 am – 3:30 pm
Custodial confirmation by 6:00 pm
Final obligation to participant 7:00 pm
T+1 day
Pay-in of securities/funds – 1st leg 9:30 am
Pay- out of securities/funds – 1st leg 11:30 am
T+31 day
Pay-in of securities of return leg 9:30 am
Pay-out of securities/funds of return leg 11:30 am
Buy-in auction for failure of borrower to return 12:30 pm (approx.)
securities
Auction obligation to participant 4:30 pm
T+32 day
Pay-in of securities for auction settlement 9:30 am
Pay-out of securities/funds for auction settlement 11:30 am

13 Position Limits:
The applicable position limits for SLBS are as under:
1) The market–wide position limits for SLB transactions is 10% of the free-float capital of the
company in terms of number of shares.
2) No Participant should have open position of more than 10% of the market-wide position limits or
Rs. 50 crore (base value), whichever is lower.
3) For a FII/MF, the position limits are the same as of the Participant.
4) The client level position limits should not be more than 1% of the market-wide position limits.
All the applicable position limits applicable are computed on the last trading day of every month which
will be applicable for the next month.

14 Collateral Deposits:
SLB Members may note that the capital deposited as collateral towards Base Minimum Capital and
Additional Capital for Securities Lending and Borrowing are to be maintained in form of Cash and Cash
equivalent only.
14.1 Base Minimum Capital:
Participants may deposit collaterals in the form of cash equivalents i.e. cash, fixed deposit receipts
and bank guarantee. The Base minimum capital is eligibility for entering into SLB segment. In case of
failure of the participant to meet its obligation, the collaterals provided by the participants may be
liquidated to meet the obligation of the participant. The Base Minimum capital is 10 lakhs rupees in form
of cash or cash equivalents (Minimum 1.25 lakhs in Cash).

14.2 Additional Base Capital:

In addition to the Base Minimum Capital the SLB Members may deposit additional capital in
form of cash or cash equivalent only (i.e., Fixed Deposit Receipts of Banks and Bank Guarantee). The
additional capital collateral deposited by the participants is utilized towards margin requirement of the
participant

14.3 Margin Requirements:

All transactions under SLBS are subject to margins. Following margins are applicable for transactions
under SLBS.

14.3.1 First Leg Transactions:

Both lender and borrower are levied margins in respect of first leg of transactions under SLBS.

14.3.2 Borrow Transactions:

The borrower is levied only the Lending fee on T day.

14.3.3 Lend Transactions:

The following margins are levied on the Participants for lend transactions:
1) Mark to Market
2) 25% of the Lending price.
Lenders may bring in early pay-in of securities on the day of the transaction execution itself. In such
cases no margins are levied on the lender.

14.3.4 Reverse Leg Transactions:

14.3.4.1.1 Borrow Transactions:

The borrower is levied margins in respect of reverse leg of transactions under SLBS. The following
margins are levied on the Participants for a borrow transaction from T+1 to T+31 day.
1) Value at Risk Margins
 2) Extreme Loss Margins
3) Mark to Market Margins
4) Lending price
Lending price is collected in the form of cash or cash equivalents as prescribed.
Borrowers may bring in early pay-in of securities any time during the tenure of the borrowed period for
availing of margin benefits.

14.3.4.1.2 Lend Transactions:

No margins levied on Lend Transactions in Reverse Leg.

14.3.4.1.3 Value at Risk Margin (VAR):

VAR margin rate as applicable to the security in the capital market segment are applicable in the SLBS.
The VAR margin is collected on an upfront basis by adjusting against the collateral of the Participant at
the time of transaction. The VAR margin is collected on the gross open position of the Participant. The
gross open position for this purpose would mean the gross of all positions across all the clients of a
Participant including its proprietary position. VAR margin rate for each security is disseminated to the
Participants through the Extranet and on the website of the Exchange. The VAR margin so collected is
released on completion of pay-in of the respective settlement.

14.3.4.1.4 Extreme Loss Margin (ELM):

Extreme Loss Margin (ELM) rate as applicable to the security in the capital market segment is applicable
in the SLBS. The Extreme Loss margin is collected on an upfront basis by adjusting against the collateral
of the Participant at the time of transaction. The Extreme Loss margin is collected on the gross open
position of the Participant. The gross open position for this purpose would mean the gross of all positions
across all the clients of a Participant including its proprietary position. The Extreme Loss margin so
collected is released on completion of pay-in of the respective settlement.

14.3.4.1.5 Mark to Market Margin (MTM):

Mark to market loss is calculated by marking each transaction in security to the closing price of the
security at the end of day in the capital market segment. In case the security has not been transacted on a
particular day in the capital market segment, the latest available closing price at the BSE is considered as
the closing price. The mark to market margin (MTM) is collected from the Participant before the start of
the SLBS session of the next day. The MTM margin is collected /adjusted from/against the collateral
deposited by the Participant. The MTM margin is collected on the gross open position of the Participant.
The gross open position for this purpose would mean the gross of all positions across all the clients of a
Participant including its proprietary position. For this purpose, the position of a client would be netted
across its various securities and the positions of all the clients of a Participant would be grossed. There
would be no netting off of the positions and set off against MTM profits across two settlements However,
for computation of MTM profits/losses for the day, netting or set off against MTM profits would be
permitted. The MTM margin so collected is released on completion of pay-in of the settlement.

14.3.5 Custodial Transactions:

In respect of transactions entered by a Participant which is to be settled by a custodian, the margins from
the time of transactions till confirmation by the custodian are levied on the Participant. On confirmation
of the said transactions by the custodian, the custodian is levied the margins applicable on such
transactions. In case of rejection by the custodian, the margins on the transaction rejected continue to be
levied on the Participant.

14.3.6 Short fall of Margins:

In case of any shortfall in margin the Participant is not be permitted to transact in SLBS with immediate
effect. The same is considered as violation and would attract penal charges as may be specified by BOISL
from time to time.

14.3.7 Margins from Clients:

Participants should have a prudent system of risk management to protect themselves from client default.
Margins are likely to be an important element of such a system. The same should be well documented
and be made accessible to the clients and BOISL. However, the quantum of these margins and the form
and mode of collection are left to the discretion of the Participants.

14.3.8 Lending Price:

1) Lending price refers to the previous day closing price of the security in the capital market
segment i.e. T-1 day closing price in the capital market segment.
2) 25% of the lending price is levied as margin on the Participants for lend transactions on T day.
This is released on completion of pay-in of T+1 settlement.
3) 100% of the Lending price is levied as margin on the Participants for borrow transactions starting
from T+1 day till the shares are returned by the borrower.
4) This is collected on an upfront basis by adjusting against the collateral of the Participant at the
time of transaction.
5) This is collected on the gross open position of the Participant. The gross open position for this
purpose would mean the gross of all positions across all the clients of a Participant including its
proprietary position.
6) The margin so collected is released on completion of pay-in of the respective settlement.
14.3.9 Lending Fees:
1) Lending fee refers to the actual price of the transaction at which the transaction is executed.
Lending fee per share is quoted by the participants while entering in to SLB Transactions. Lending fee
obligation is the lending fee per share*quantity of shares borrowed/lent.
For e.g. If a transaction is executed at Rs 5 per share for 100 shares of Security “X” then the total
lending fee obligation for the borrower for security “X” will be Rs. 500.
2) Lending fee is levied as margin on the Participants for borrow transactions on T day on an
upfront basis.
3) This is collected on an upfront basis by adjusting against the collateral of the borrower at the time
of transaction.
4) The margin so collected is released on completion of pay-in on T+1 settlement date.

14.4 Corporate Actions:

In case of corporate actions during the tenure of lending/borrowing the following procedure will be
followed by BOISL depending on the type of corporate actions:
1) Dividend :
The dividend amount received on the borrowed shares would be collected from the borrower for the
relevant period and passed on to the lender.
2) Stock Split
In case of stock split, the position of the borrower for the return leg will be proportionately adjusted, and
the lender will receive the revised quantity of shares at the time of settlement of return leg of the
respective SLB transaction.
3) Other Corporate Actions :
In case of other corporate actions such as bonus/merger/amalgamation/open offer, etc. the transactions
shall be foreclosed at least two working days prior to the ex-date. In such case, the lending fees shall be
returned by the lender on a pro-rata basis to the borrower. The shut down period for all corporate actions
in respect of concerned securities shall be intimated from time to time.
5 Revival of SLB by SEBI

Pursuant to feedback received from market participants and proposals for revision of SLB received from
NSE and BSE, SEBI issued notice for revival of the SLB framework. The modified SLB framework
should have following enhanced operations:
1) The tenure of contracts in SLB may be upto a maximum period of 12 months. The Approved
Intermediary (Clearing corporation/ Clearing House) shall have the flexibility to decide the tenure
(maximum period of 12 months).
2) The lender/Borrower shall be provided with a facility for early recall/repayment of shares.
3) In case the borrower fails to meet the margin obligations, the Approved Intermediary (AI) shall
obtain securities and square off the position of such defaulting borrower, failing which there shall be a
financial close-out.
4) In case lender recalls the securities anytime before completion of the contract, the AI on a best
effort basis shall try to borrow the security for the balance period and pass it onward to the lender. The
AI will collect the lending fee from the lender who has sought early recall.
5) In case of early recall by the lender, the original contract between the lender and the AI will exist
till the contract with the new lender for the balance period is executed and the securities returned to the
original lender.
6) In case of early repayment of securities by the borrower, the margins shall be released
immediately on the securities being returned by the borrower to the AI. The AI shall on a best effort
basis, try to onward lend the securities and the income arising out of the same shall be passed on to the
borrower making the early repayment of securities.
7) In case AI is unable to find a new borrower for the balance period, the original borrower will have
to forego lending fee for the balance period.
8) In case of early recall by lender or early repayment of securities by borrower, the lending fee for
the balance period shall be at a market determined rate.
6 Upgradation of SLB at BSE:

15 Change in timings:
The current SLB system starts at 9:55 am on BSE. It has to be changed to 9:00 am.

16 Contract Cycle and Expiration:

The contract expiration cycle will be every Thursday of the week. This corresponds to the fact that at any
time in the system 52 contracts (i.e. 52 weeks) will be available for entering. On every day we need to
introduce only 1 new contract for each security in F&O segment.

17 Modified Settlement Cycle:

Activities Current Proposed Timings
Timings
Trade Day
Securities Lending & 09:55 am to 09:00 a.m. – 03:30 p.m.
Borrowing session 3:30 pm
Custodial confirmation by 06: 00 p.m. by 06: 00 p.m.
Final obligations download 07:00 p.m. 07:00 p.m.
Expiration day+1
Pay-in of securities/funds – 1st 9:30 a.m. 9:30 a.m.
leg
Pay- out of securities/funds – 11:30 a.m. 11:30 a.m.
1st leg
Expiration day + 1
Pay-in of securities of return 9:30 a.m. 9:30 a.m.
leg
Pay-out of securities/funds of 11:30 a.m. 11:30 a.m.
return leg
Buy-in auction for failure of 12:30 p.m. 12:30 p.m. (approx.)
borrower to return securities (approx.)
Auction obligations download 4:30 p.m. 4:30 p.m.
Expiration day + 2
Pay-in of securities for 9:30 a.m. 9:30 a.m.
auction settlement
Pay-out of securities/funds for 11:30 a.m. 11:30 a.m.
auction settlement
18 Margin Requirements:

18.1 Lend Transactions:

1) Fixed percentage of the LENDING PRICE to be collected on an upfront basis by adjusting the
same against collateral deposits of the SLB members. The fixed percentage will be 25%. No margins
will be levied on the lender in case of early pay-in of securities.
2) If the Lender Pay-In’s the securities on T+1 day before 9:00, his margin needs to be released
immediately.
3) If there is a default from Lender side on T+1 day in case of non-delivery of securities, there
should be a FINANCIAL CLOSEOUT.

18.2 Borrow Transactions:

1) Lending Fees to be collected on an upfront basis by adjusting the same against collateral deposits
of the SLB members.
2) Lending price shall now be adjusted from the available collateral deposits of the member lying
with the Exchange, the funds obligation of the borrower in a settlement on T+1 day shall be the
lending fees plus cash call (if available collateral is not sufficient towards lending price), if any.

19 Early RECALL Transactions:

EARLY RECALL refers to the fact that lender recalls the securities anytime before expiration of
the contract. In case of EARLY RECALL, the lender will specify the contract which he wants to
RECALL since the order type is ALL or NONE. The Lender will also specify the Lending Fees he is
willing to pay for the RECALL. The CH will first find ORDER MATCH from Original Borrower i.e.
EARLY RETURN. If the match is found then the Lending Fees paid by the Lender for RECALL will be
passed on to the Borrower. Positions of both Lender and Borrower will be extinguished and margins will
be released.
If the Order of EARLY RECALL is not matched with EARLY RETURN then new LENDER is to
be found to match the order. If the New Lender is found then Lending Fees would be transferred to this
Lender and securities would be given back to the Original Lender. The position of the original Lender
will be extinguished. When the original Borrower returns the security the securities will be given back to
the New Lender.
If new Lender is not found the CH will issue a Notice to the Lender that Early RECALL is not
possible. The original contract will still be in place if Early Recall is not executed. The margining would
be same as that of Normal Lend and Borrow Transaction.
20 Early RETURN Transactions:
EARLY RETURN refers to the fact that Borrower wants to return back the securities to the Lender
before expiration of the contract. In case of EARLY RETURN, the borrower will specify the contract
which he wants to RETURN. He will also specify the Lending Fees for balance duration since he is
returning it early. The CH will first find ORDER MATCH from Original Lender i.e. EARLY RECALL.
If the match is found then the Lending Fees paid by the Lender for RECALL will be passed on to the
EARLY RETURN Borrower. Positions of both Lender and Borrower will be extinguished and margins
will be released.
If the Order of EARLY RETURN is not matched with EARLY RECALL then new BORROWER
is to be found to match the order. If the New Borrower is found then Lending Fees would be collected
from this Borrower and securities would be given to him. The Lending Fees would be transferred to the
original Borrower. The position of the original borrower will be extinguished. When the new Borrower
returns the security the securities will be given back to the original Lender.
If the New Borrower is not found the CH will issue notice to the Borrower that Order Matching not
possible. It will collect securities from the Original Borrower and release all the margins. The Lending
fee for the remaining period is forgone. The securities are kept with the CH (i.e. in CH’s DEMAT
account). These securities are returned to the Original Lender on the Expiration Day of the contract.
The margining would be same as that of Normal Lend and Borrow Transaction.

All Trades to be maintained by Clearing House in a crystallized form though the net positions may be
netted out in terms of money. The positions are not to be netted out in terms of securities. All Trades are
to be maintained on particular Trade by Trade Basis.

21 Examples and Default Handling:

21.1 Normal Lending and Borrowing Transactions:

Contract Specifications:
No. of Shares: 100
Lending Fees: 10 Rs
Lending Price: 200 Rs (i.e. Value at End of T-1 day)
Total Lending Price: 20000 Rs.
Total Value of Contract: 21000 Rs
No. of Days to Expiry: 90 days.
 VAR and ELM together are assumed fixed at 20% of Market Price

Transaction Time Price of Lender Clearing House Borrower

Day Stock at

T-1 day End 200 ----------------- -------------------- ------------------

T Day End 210 5000 Rs Blockage of 1000 Rs

Upfront Margin Margins Blocked upfront
Blocked. (25% (Only Lending
of Lending Fees.)
Price)

T+1 Day Before 210 Pay- In of

start of Securities and
Trading release of 5000
Session Rs by CH.

T+1 Day End of 220 Lending Fees Lending Price

Day i.e. 1000 Rs i.e. 20000.
transferred
Mark to Market
from CH to
i.e. 2000.
Lender.
VAR/ELM i.e.
4400.

So at before the start of next trading session i.e. on T+2th day (before 9:00), the borrower needs to
deposit or have additional Base capital of Rs 26400 (20000+2000+4400=26400) with the CH. All
margins are deducted from Additional Base Capital. The Base minimum Capital is not to be touched
upon. If say on T+2 day before 9:00 a.m. the borrower has deposited all the collateral required by him
then he has met his obligation. As soon as the borrower deposits the collateral of Lending Price, MTM
and VAR/ELM then the securities are transferred in his account not before that.

Suppose at end of T+2 day, the closing stock price is Rs 170. Mark to Market is always in case of Losses
and not in case of Profits. In this case only 20*100=2000 will be released. (The CH will always maintain
the Lending Price amount with them. They will release only the excess capital above Lending Price. In
this case the excess capital over Lending price was 20 Rs. i.e. 220-200= 20. It is not 220-170=50 Rs.
Since Lending Price is 200 and not 170. ). VAR and ELM = 3400 (20% of 170 *No. of stocks). So before
start of next trading session i.e. before T+3 day morning 9:00 a.m. CH will release 3000 Rs to Borrower
(2000 from MTM and 1000 (4400-3400=1000) from VAR/ELM). Now the Clearing House holds
20000+3400=23400 as collateral from Borrower side.

If Lender defaults in case of Pay-in of securities the financial close out takes place as per formula
provided by BOISL. The Lending Fees is returned back to the Borrower.

If Borrower Defaults by not paying the Lending Price/MTM/VAR/ELM before start of session on T+2
day then securities are returned backed to the lender with the Lending Fees.
On Expiration Day, securities are returned by borrower and his margins are released. On Expiration
Day+1 the securities are transferred to the Lender.

If borrower defaults on Expiration Day, CH will use collateral of Borrower and carry out AUCTION of
securities in Cash Market and return it to Lender.

If anytime after T+2 and before Expiration if borrower defaults then financial closeout is carried out
through the collateral of the Borrower.

21.2 Early RECALL:

Contract Specifications:
No. of Shares: 100
Lending Fees: 10 Rs
Lending Price: 200 Rs
Total Lending Price: 20000 Rs.
Total Value of Contract: 21000 Rs
No. of Days to Expiry: 90 days.
VAR and ELM together are assumed fixed at 20% of Market Price

Suppose all obligations on T, T+1 and T+2 are fulfilled by both parties i.e. Lender and Borrower.
On 30th day the Lender RECALL’s the contract. He would specify a Lending Fees at which he will
RECALL the contract. Suppose the RECALL Lending Fees specified is 6 Rs. In this case we have 3
scenarios:
 a) Case I: Early Return Lending Price is less than that of New Lender’s Lending Price (i.e.
Early Return Price= 6 Rs, New Lender’s Lending Fees= 7 Rs)
In this case the transaction would match with Early Return Borrower. The Lending Fees would be
transferred to the borrower. Borrower’s collateral would be released. The transaction would end.
b) Case II: Early Return Lending Price same as New Lender’s Lending Price (i.e. Early
Return Price=6 Rs, New Lender’s Lending Fees= 6 Rs)
In this case the transaction would match with Early Return Borrower, since the priority will be given
to Early Return Transaction as compared to New Lender. The Lending Fees would be transferred to
the borrower. Borrower’s collateral would be released. The transaction would end.
c) Case III: Early Return Lending Price is greater than New Lender’s Lending Price (i.e.
Early Return Price= 7 Rs, New Lender’s Lending Fees= 6 Rs)
In this case the transaction would match with New Lender. The priority is Price and then whether it is
Early Return or New Lender with Early Return having more priority over New Lender. The Lending
Fees would be transferred to the New Lender. New Lender’s collateral (i.e. 25% of Lending Price)
would be released. The transaction would end.

In case of Default from Early Return (i.e. Borrower), the CH has the complete collateral of the Borrower.
So it will carry out the Auction and return the securities to the Original Lender.

In case of Default from new Lender then there will be financial close out. But this Financial close out will
adjust only the change in Market Price. The complete value of stock is still to be recovered. The original
transaction will still be in place since the Original Lender neither got securities nor the value of stock.
Suppose the Lending Price on RECALL day is same i.e.200 Rs. So from New Lender we block only 25%
of Total Lending Price i.e. 5000 Rs. On 31st Day the New Lender defaults, so there will be financial
closeout as per formula provided by BOISL. The original Lender (RECALLER) will get only the money
out of this 25%. He has still not received his securities nor has he received the Value of the Stock (i.e.
20000 Rs in this case). So his original contract with Original Borrower will still be in place.

21.3 Early RETURN:

Contract Specifications:
No. of Shares: 100
Lending Fees: 10 Rs
Lending Price: 200 Rs
Total Lending Price: 20000 Rs.
 Total Value of Contract: 21000 Rs
No. of Days to Expiry: 90 days.
VAR and ELM together are assumed fixed at 20% of Market Price

Suppose all obligations on T, T+1 and T+2 are fulfilled by both parties i.e. Lender and Borrower. On 30 th
day the Borrower generates a RETURN order for the contract. He would specify a Lending Fees at which
he will RETURN the contract. Suppose the RETURN Lending Fees specified is 6 Rs. In this case we
have 4 scenarios:
a) Case I: Early RECALL Lending Price is less than that of New Borrower’s Lending Price
(i.e. Early RECALL Price= 6 Rs, New Borrower’s Lending Fees= 7 Rs)
In this case the transaction would match with Early RECALL Lender. The Lending Fees would be
transferred to the Early RETURN Borrower. Borrower’s collateral would be released. The transaction
would end for original borrower and original Lender.
b) Case II: Early RECALL Lending Price same as New Borrower’s Lending Price (i.e. Early
RECALL Price=6 Rs, New Borrower’s Lending Fees= 6 Rs)
In this case the transaction would match with Early RECALL Lender. Since the priority will be given
to Early RECALL Transaction. The Lending Fees would be transferred to the Early RETURN
Borrower. Borrower’s collateral would be released. The transaction would end for original borrower
and original Lender.
c) Case III: Early RECALL Lending Price is greater than New Borrower’s Lending Price (i.e.
Early RECALL Price= 7 Rs, New Borrower’s Lending Fees= 6 Rs)
In this case the transaction would match with New Borrower. The priority is Price and then whether it
is Early RECALL or New BORROWER with Early RECALL having more priority over New
Borrower. The Lending Fees would be transferred to the Original Borrower. Original Borrower’s
collateral will be released. New Borrower’s collateral (i.e. Lending Price, VAR/ELM and MTM)
would be blocked. The transaction would end for original borrower. When the New Borrower will
return the securities they would be transferred to the Original Lender.
d) Case IV: No Early RECALLER and no New Borrower:
In this case the CH will issue notice to the Borrower that Order Matching not possible. It will collect
securities from the Original Borrower and release all the margins. The Lending fee for the remaining
period is forgone. The securities are kept with the CH (i.e. in CH’s DEMAT account). These securities
are returned to the Original Lender on the Expiration Day of the contract.
 In case the new Borrower Defaults, then the Lending Fees which is blocked upfront will be transferred
to the Original Borrower (i.e. RETURNER of Securities). The original contract with original Lender
will still be in place.

22 Corporate Actions:
1) Dividend:
The amount of the Dividends should be collected from the Borrower and returned to the Lender
on the Ex-date of the Dividend.
2) Stock Split:
The position of borrower will be proportionately adjusted and Lender will receive the revised
quantity of shares at time of settlement of return leg of respective SLB transactions.
3) Voting Rights:
Any voting rights will be transferred along with securities and hence Lender will not be able to
exercise their voting rights until securities are delivered. The voting rights will now belong to the
Borrower.
4) Other Corporate Actions:
In current scenario in case of Merger/Amalgamation, Bonus, Open Offer etc. the transactions are
foreclosed atleast two working days prior to ex-date. In such cases the lending fees is returned by
lender on pro-rata basis to borrower.
7 Conclusions:

SLB is primarily an OTC market product. With SEBI making it an Exchange Traded Automated
Anonymous Screen Based Model many deals will be negotiated at the back and just quoted for record
purpose on the Screen. Lenders care more about the counter-party risk. The new model with 365 days
contract cycle will help the market. It will help to cover the short positions over a period of 365 days. The
new model will also help in greater liquidity in the market. It will help in better Price Discovery of a
particular underlying. Market Feedback with FII’s and Institutions says that the model will result in
serious deal coming to the market. Large Insurance Companies and Mutual Funds are willing to lend
securities. FII’s think that they can line up borrowers.
Though concerns exist about the ability of Clearing Houses and Approved Intermediary in Physical
Delivery of the Stocks, but the product is bound to help and penetrate the Short Selling and Covering
aspects in the Indian Securities Market.
8 Recommendations:

1) The securities eligible for SLB are Derivatives Segment Securities. The segment needs to be
expanded beyond the F&O segment securities. This is because Borrowers have a competing Product
i.e. they can easily SHORT in FUTURES market as compared to going the SLB way. So for this
product to capture market share it needs to be extended to securities other than F&O segment.
2) The ORDER type is All or None. Partial orders should be accepted. In coming future this
enhancement should be done in the product.
The margin requirements are very high. There should be some way to devise the reduction in margin
requirements and lower risk.
3) The CH and AI have very large responsibility. CH is responsible for counter-party risks. CH is
also responsible for settlement of the contracts. These responsibilities need to be reduced.
4) The collateral deposits do not accept Government Securities. The G-securities are more liquid
than FDR’s and Bank Deposits. So G-securities should also be accepted as Deposits.
5) Insurance Companies are not allowed in Securities Lending and Borrowing Segment. The
insurance companies will be the major lenders in the SLB market. So the regulation needs to be
changed so as to allow insurance companies participate in SLB segment.
6) More Clarifications on Corporate Actions and Voting Rights needs to be specified by the SEBI.
9 References:

1) www.sebi.gov.in
2) www.bseindia.com
3) www.nseindia.com
4) S&P ,Transparency in Securities Lending Market Report, Jan 2010
5) Mark C. Faulkner, An Introduction to Securities Lending Third Edition, 2006
6) Dominick Falco and Risa Muroi, Report On Asian Securities Lending , at PASLA / RMA
Conference Hong Kong, 2 March 2010

7) SEBI Master Circular for Cash Market

8) Elizabeth Murthy, Risk Management Association Securities Lending Division, Securities
Exchange Commission, Sep 2009
9) Research Paper No:44 How Short Selling Activity affects liquidity of Hong Kong Stock Market,
17th April 2009
10) Agency Lending Disclosures Financial Services, UK, Dec 2007.