Loan against shares is a financial product that allows investors to leverage their stock portfolio to avail funds from a lender. This type of loan is secured by pledging shares or stocks as collateral, providing a way for investors to unlock the value of their investments without selling them.
In this article, we will explore everything you need to know about loan against shares, including its features, benefits, risks, and how it works.
Know all about loan against shares
- Definition: A loan against shares is a type of loan where borrowers pledge their shares or stocks as collateral to avail funds from a lender. This allows investors to unlock the value of their investments without selling them.
- How it works: Borrowers pledge their shares to the lender, who assesses the value of the shares and offers a loan amount based on a certain percentage of the shares' value. The loan amount, interest rate, and other terms are agreed upon, and the lender disburses the funds to the borrower. Borrowers continue to retain ownership of the shares and receive any dividends or benefits associated with them. Interest is charged on the loan amount, and borrowers are required to make regular interest payments.
- Types of stocks approved: Blue-chip stocks, mid-cap stocks, large-cap stocks, exchange-traded funds (ETFs), and mutual fund units are typically approved for loans against shares.
- Benefits: Loan against shares offers liquidity, allowing investors to access funds without selling their shares. It also allows investors to retain ownership of their shares and benefit from any future appreciation in stock prices. Additionally, loan against shares generally offers lower interest rates compared to unsecured loans.
- Risks: The main risks associated with loans against shares are margin calls and the potential loss of collateral. If the value of the shares falls below a certain level, borrowers may be required to provide additional collateral or repay part of the loan. If borrowers fail to repay the loan, lenders can sell the pledged shares to recover the loan amount, which may result in a loss if the shares have depreciated in value.
What are the securities included under a loan against shares?
In a loan against shares arrangement, securities refer to the shares or stocks that the borrower pledges as collateral to secure the loan. These securities typically include:
- Equity shares:
Shares of publicly listed companies that are traded on stock exchanges. - Mutual fund units:
Units of mutual funds, which are investment vehicles that pool money from multiple investors to invest in a diversified portfolio of stocks, bonds, or other securities. - Exchange-Traded Funds (ETFs):
ETFs are similar to mutual funds but are traded on stock exchanges like individual stocks. - Bonds:
Certain types of bonds, such as government bonds or corporate bonds, may also be accepted as collateral for a loan against shares.
The value of these securities is used to determine the loan amount that the borrower can receive. The lender assesses the value of the securities and offers a loan amount based on a certain percentage of their value. Borrowers continue to retain ownership of the securities but must repay the loan according to the terms agreed upon with the lender.
How to manage your loan against shares portfolio?
- Regular monitoring: Keep a close watch on the performance of your pledged stocks and the overall market trends. This will help you assess the need for any action, such as adding more collateral or repaying part of the loan to maintain the required margin.
- Diversification: Avoid concentrating your loan against a shares portfolio in a few stocks or sectors. Diversifying your portfolio can help reduce the risk of a sharp decline in the value of your pledged securities.
- Stay informed: Stay informed about company news, market developments, and regulatory changes that may impact the value of your pledged stocks. This will help you make informed decisions about managing your portfolio.
- Monitor margin levels: Regularly check the margin levels of your pledged stocks to ensure they meet the lender's requirements. If the margin falls below the required level, you may need to provide additional collateral or repay part of the loan to maintain the margin.
- Regular repayments: Make regular repayments of the loan as per the agreed schedule to avoid any penalties or margin calls. Timely repayment also helps maintain a healthy credit profile.
- Review loan terms: Periodically review the terms of your loan against shares, including interest rates and repayment schedule. If you find better terms elsewhere, consider refinancing your loan to reduce costs.
- Consult financial advisor: Consider consulting with a financial advisor to assess your loan against the shares portfolio and make any necessary adjustments to manage risks and maximize returns.
How to apply for a loan against shares?
- Choose a lender: Research and select a lender who offers loans against shares. Compare interest rates, loan-to-value (LTV) ratios, and other terms to find the best option for your needs.
- Check eligibility: Ensure you meet the lender's eligibility criteria, which may include minimum age, minimum value of shares, and other requirements.
- Gather documents: Collect all necessary documents, including identification proof, address proof, income proof, bank statements, and details of the shares to be pledged.
- Valuation of shares: The lender will assess the value of the shares you wish to pledge. The loan amount offered will be based on a certain percentage of this value.
- Loan application: Fill out the loan application form provided by the lender. Provide accurate details and ensure all required documents are attached.
- Loan approval: Once your application is submitted, the lender will review it and approve the loan if you meet their criteria. The approval process may take a few days.
- Pledge of shares: After approval, you will be required to pledge the shares by signing the necessary documents and transferring the shares to the lender's demat account.
- Disbursement of funds: Once the shares are pledged, the lender will disburse the loan amount to your bank account.
- Repayment: Repay the loan as per the agreed schedule, including principal and interest payments. Failure to repay may result in the lender selling the pledged shares to recover the loan amount.
- Regular monitoring: Monitor the performance of your pledged shares and the loan account regularly to ensure compliance with the terms of the loan.
Conclusion
Loan against shares offers investors a way to access funds while retaining ownership of their stock portfolio. By pledging their shares as collateral, investors can unlock the value of their investments without having to sell them. However, it is important to carefully consider the risks and benefits associated with this financial product and consult with a financial advisor to make an informed decision based on individual circumstances.
