With long-only funds away, SLB fails to take off

Ashish Rukhaiyar & Mehul Shah
Mumbai, 16 July 2011

More than three years have passed since the Indian equity market saw the introduction of a stock lending and borrowing (SLB) mechanism. However, the segment has hardly seen any activity till now. While a few hundred trade exchanges have been recorded in the recent months, the turnover remains abysmally low. Long-only players like insurance firms and pension funds are not allowed to participate in the segment.

SLB, as the name suggests, refers to a mechanism through which a market player can temporarily borrow shares to cover his delivery obligations. The shares are typically borrowed for a fixed fee, decided by the stock exchanges. The borrower has to return the shares at the end of the agreed term.

According to industry players, the physical settlement in equity derivatives, recently approved by the regulator, has provided a much-needed boost to SLB. However, it would take some time before the results were visible. An active SLB mechanism would require a fresh outlook by regulators, along with large institutional players, especially long-only funds.


Globally, insurance and pension funds are active in the SLB segment, providing the much-needed supply of shares. Such long-only funds are typically passive on a large corpus of shares and are, therefore keen to earn interest by lending these shares. However, in India, regulatory ambiguities have kept such players away from participating in SLB.

“Existing long-only players like insurance and mutual funds need to find this segment relevant. If there are any ambiguities, clarification should be provided,” says Vineet Bhatnagar, managing director and chief executive, MF Global Sify Securities.

Chief investment officers (CIOs) of insurance companies are not sure whether they are allowed to participate in SLB. “Ideally, we should participate in this segment, as it is a cash market product. However, we are not sure about the rules,” said the CIO of a private insurance company.

A senior Insurance Regulatory and Development Authority official said the Insurance Act did not allow insurance firms to participate in the SLB mechanism. “The Insurance Act needs to be amended for insurance firms to take part in stock lending and borrowing activity,” he said. According to data available with the National Stock Exchange, the SLB segment registered around 100 trade exchanges in July so far, with the turnover pegged at only Rs 5 lakh. In May, nearly 400 such exchanges, accounting for Rs 19 lakh, were recorded.

“The premise is that SLB means derivatives and so, insurance players should not be allowed,” says an industry source involved in enhancing the acceptance of SLB. “But that's a wrong approach, since SLB requires two kinds of participants, borrowers and suppliers. The latter is in no way involved in derivatives. They use their idle portfolio to earn interest. This is the practice followed globally,” he says.

Sebi had, early this year, given its approval to physical settlements in equity derivatives, through which the contracts have to be settled in underlying shares, instead of the current system of cash. Some feel the SLB system would take off once physical settlements gain the acceptance of investors. The Bombay Stock Exchange has already moved to the new system. It would soon introduce a market-making scheme to enhance its popularity.