What is Securities Based Lending and should I take advantage of it? Securities based lending occurs when a Broker Dealer offers a loan to a client and uses the securities in their account as collateral. For instance, a client may have $1 million stock portfolio and the Broker would make a loan up to $700,000 and putting a lien against the stock portfolio as collateral. The Financial Times has written a recent article describing the boom in SBL’s the last few years.
From the article:
“A prolonged market downturn could cause a lot of grief, given the huge growth in SBL balances in recent years. Morgan Stanley, for example, had a total consumer loan portfolio of less than $4bn at the end of 2010. Now it has $31.4bn in SBLs alone, up almost a quarter from a year earlier. At Raymond James, one of the top regional brokers, SBLs were up about a third, year on year, to $1.83bn.
No one is sure how big the total market is. The Federal Reserve does not keep tabs on SBLs and neither does Finra, the self-regulatory body for the securities industry.”
What are the risks and why do Brokers push these loans?
The risk is straight forward. The value of the underlying portfolio falls in a significant way and triggers a margin call. The borrower would then be forced to come up with additional cash to pay the margin. They may be forced to sell stock (at a bad time) to cover the margin deficit.
Brokers push the loans for two very self-interested reasons:
- The Broker gets a secondary stream of revenue off of the same pool of assets.
- Clients can’t move their portfolios to competitors if there is a loan secured against them. This increases the client’s vulnerability to the Broker.
From the article:
But to Paul Meyer, a Los Angeles-based principal and testifying expert at the Securities Litigation and Consulting Group, the rapid growth of SBLs is bound to end in tears. “Bad conduct” is occurring every day, he says, but it will stay hidden until a “catastrophic” drop in the market prompts forced liquidations and claims that the SBLs were mis-sold.
In Puerto Rico, he notes, wobbles in the territory’s bond market in 2014 caused trouble for brokers including Charles Schwab and UBS. It also turned out that some Puerto Ricans had used SBLs to buy more bonds — in direct contravention of the terms of the loans.
For the rest of the US, he warns, “the shoe has yet to drop”.”
http://www.ft.com/cms/s/0/419c860a-54fa-11e6-9664-e0bdc13c3bef.html?siteedition=intl#axzz4Fp7EXscP
