Low LTV makes loans against shares unattractive

Despite a substantial increase in the number of retail investors over the last few years, loans against securities (LAS) have grew just 8% in March 2023. In comparison, loans against fixed deposits jumped by a whopping 46%.

The reason behind it is the relatively lower loan-to-value (LTV) ratio that lenders offer. Hence, it has remained a niche product. Nearly two million new dematerialised accounts were opened in March, and mutual fund folios reached an all-time high of 145.7 million.

LAS constitutes a mere 0.05% of overall non-food credit, whereas loans against fixed deposits comprise nearly 1% of non-food credit.

“This product is also not intended for intraday and short-term trades as securities are pledged in favour of the bank and cannot be sold before the loan is settled,” said Virendra Somwanshi, head – wealth management, capital market and NRI business, Bank of Baroda.

LAS is extended only against those stocks which are in the bank’s approved list. The interest rate on this product typically ranges from 9.5-12.75%.

While the list of securities against which one can get a loan varies from lender to lender, parameters like market capitalisation, volatility in stock price, and liquidity of the stock are key to determining eligibility. Typically, shares of bigger companies qualify.

According to the Reserve Bank of India’s norms, loans to individuals against units of equity-oriented mutual funds held in the physical form cannot exceed Rs 10 lakh per individual. If shares are held in the dematerialised form, the limit stands at Rs 20 lakh.

The loan amount sanctioned against mutual funds is determined on the basis of the value of units that are held. Typically, the loan offer goes up to 50% of the market value of the MF scheme and up to 70% of the net asset value of MFs pledged at the time of applying for the loan.

Due to this, the LTV ratio offered on LAS is typically lower than similar products like loan against fixed deposits, say experts.  

“Loan against mutual funds and shares is not the first option. If you contrast this to loan against fixed deposits, banks would be willing to lend as much as 80-95% of the FD amount as loan. Loan rates would be usually 1-2% over and above the FD rates,” says Adhil Shetty, chief executive officer, BankBazaar.com.

Additionally, it is more volatile than loan against fixed deposits as the investment amount can fluctuate on the basis of market movement, say experts.

However, market experts believe that these products will get some traction as the market deepens. “I have high expectations for this product since there is a huge growth expected in Indian equity and the MF industry. Loan against securities will help customers enjoy the flexibility of meeting today’s cash flow needs, without compromising their future investing goals,” Bejoy Anthraper, business head at Geojit Credits, said.