Securities lending is also involved in hedging, arbitrage and non-handling credits. In all of these scenarios, the benefit to the securities lender is either to obtain a low return on the securities currently held in its portfolio, or to possibly cover cash requirements. Short selling involves the sale and repurchase of borrowed securities. The objective is to sell the securities at a higher price and then buy them back at a lower price. These transactions occur when the borrower believes that the price of the securities will soon fall, allowing him to make a profit based on the difference in selling and buying prices. Regardless of the amount of profit, if any, the borrower earns from the short sale, the fees agreed to at the credit intermediation are due as soon as the term of the contract has expired. Securities lending is usually made between brokers and/or traders, not between individual investors. To complete the transaction, a securities loan agreement, called a loan agreement, must be concluded. It defines the terms of the loan, including the term, the lender`s fees and the nature of the guarantees. Securities lending is important for short selling in which an investor borrows securities and sells them immediately. The borrower hopes to take advantage of this by selling the guarantee and later buying it back at a lower price. As the property has been temporarily transferred to the borrower, the borrower is required to pay dividends to the lender. In these transactions, the lender is compensated in the form of agreed fees and has also repaid the guarantee at the end of the transaction.
This allows the lender to increase its returns by obtaining these fees. The borrower benefits from the opportunity to make a profit by reducing the securities. When a security is transferred under the loan agreement, all rights are transferred to the borrower. These include voting rights, the right to dividends and rights to other distributions. Often, the borrower refers to the lender the payments corresponding to dividends and other returns. The loan of securities is the act of lending to an investor or an investment company. The loan of securities is conditional on the borrower setting up guarantees, whether cash, guarantees or letters recommended. When a security is lent, the title and ownership are also transferred to the borrower.
Suppose an investor thinks that the price of a stock will fall from its current price of $100 to $75 in the near future. The stock is not very volatile and generally trades in defined areas. To take advantage of her thesis, she borrows 50 shares of the company from an investment company by establishing a cash guarantee of $5,000. The investor repurchases the shares at a reduced price after the share price falls at the expected price and receives a stock credit discount from the lender. Typical securities lending requires countervailing brokers that facilitate the transaction between lenders and lenders. The borrower pays a royalty to the lender for the shares and this fee is divided between the lender and the clearing house. Under FDIC rules, borrowers should provide at least 100% of the value of the securities as collateral. Securities guarantees also depend on its volatility.
The minimum guarantee for securities loans is at least 102% of the market value of the borrowed securities, plus accrued interest bonds. Federal Deposit Insurance Corporation.