What is pledging of shares in the stock market? Why is it dangerous for investors? What is the meaning of pledged shares? What happens if I pledge my shares? What is the pledging of shares in the Demat account? Is it possible for retail traders to pledge shares? Pledging of shares Zerodha.
Keeping it simple let us take an example of any business, assume it’s not a cash-rich business and the promoters of the business might require money for fueling or exercising multiple in-house requirements like paying salary to employees, purchasing raw materials, etc. So how can they raise money, as promoters of the business they will be having most of the shares of the company, promoters can go to the bank and take a loan and as a security, they can give the companies shares like we normal people take gold loans by keeping gold as security. This process is called pledging of shares. It’s always not a one-to-one pledging, which means that the company that is pledging the shares needs 20 crores so it’s quite obvious that the banks will demand security of shares worth more than 20 crores and it can go up to 50 crores worth of shares. Many scenarios can happen in this case, imagine the price of a share was Rs 100 at the time of pledging and it came all the way down to 50 rupees, now there is a mismatch in the amount of 25 crores of shares pledged, to overcome these the promoters will have to either play 25 crores in cash or pledge again 25 crores worth of shares or they can repay the loan worth of 10 crores to balance the collateral. In case if any of these fails then the banks will have complete authority over the pledged shares and they can sell all the pledged shares which will lead to a demand-supply mismatch and the share price will tumble which is not good for the business. From these scenarios, you can understand that the stronger the business the less percentage of shares pledged. As a part of the fundamental analysis, we can say that the pledging of shares impacts the stock prices negatively. SEBI has been mandated to share the pleading percentage and can be found on various websites like the National stock exchange website, moneycontrol, etc. Also trading in shares of those companies that have pledged shares of more than 25% will require higher margins.
The same funda discussed above can be implemented for retail traders as well, the shares in your Demat account can be pledged to your broker for getting a trading margin. Not only shares, but a retail trader can also pledge different types of securities like mutual funds, bank fixed deposits, ETFs, and government securities. Most of the brokers have a list of securities they accept for pledging as collateral.
The collateral margin is provided after deducting something called a haircut. What is a haircut? The haircut is a percentage of cutoff that’s deducted from the total pledged amount for example if the haircut is 10% then for every 100 rupees pledged you will receive a margin amount of 90.
The margin provided by the broker fluctuates as per the fluctuations of the securities pledged. Haircut value can also get changed according to the price fluctuations. The securities pledged to the broker remain in your Demat account only as per the new SEBI rules. So the dividends also will get credited to your primary bank account linked with the broker. Not only dividends, but you will also continue to benefit from any corporate actions.
Now, some important things about the pledged margins are that they can only be used to trade in the derivative segments i.e. futures and options, Also for overnight F&O positions, 50% of the amount used should be cash and 50% can be used from the pledged margin. There is an exception to this rule if you are using pledged margin from cash equivalent securities like Liquid Bees, Government securities, or Sovereign Gold Bonds. Otherwise, 0.05% interest is charged for the shortfall of the cash amount. For example, you have pledged shares worth 10 lakhs considering a 10% haircut the margin amount available for trading is 9 lakhs. Now imagine you are taking an Overnight F&O trade which requires a margin of 10 lakhs, so 5 lakhs can be used out of 9 lakhs pledged margin and 5 lakhs cash should be present in your Demat account that’s obligatory. Otherwise, the interest of 0.05% on 5 lakhs should be deducted every day as long as you are holding to the overnight trade. A scenario to understand here is the shortfall amount, from the above case consider you have 4 lakhs in your Demat account instead of 5 lakhs which is required, so the shortfall here is 5-4 = 1lakhs and an interest of 0.05 % will be charged on the shortfall amount only.
One more important thing to understand is that all the shares won’t be available for pledging, the shares which are approved by Clearing Corporation for Pledging will be accepted by the Brokers and the list will be usually provided on their website with respective Haircut for the same. It’s also worth noting that the Haircut % changes with respect to the company shares, and is decided by the brokers depending on the performance and quality of the company stocks. Usually, better-performing large-cap stocks with less volatility attract only a lower haircut from Broker while Pledging.
Please find the link to see the list of securities accepted by Zerodha for pledging along with the haircut %
https://docs.google.com/spreadsheets/d/1vRI4NKpJ-3mnOWxUhSRMSQD5txy8QNumzSQrdfGKyL0/edit#gid=0
Please find the below link to understand the pledging process in Zerodha
Once you pledge your shares you will receive an SMS and email from CDSL and you can go ahead and click the link in the mail to confirm the same.
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