Margin loan ceiling raised to 100%

To allow contrarian investors to buy more stocks at declined prices, and also help the market avert the forced selling of securities from leveraged investment accounts, the securities regulator has raised the ceiling of margin loans to 100%, from 80%.

Leverage, technically called margin loan, allows investors to buy more securities with the money borrowed from their brokers or merchant banks.

The Bangladesh Securities and Exchange Commission (BSEC) on Sunday said brokers and merchant bankers may lend their clients up to 100% of their equities, as long as the price to earnings (PE) ratio of a particular stock does not exceed 40.

The leverage facilitation came in response to the sharp fall in the stock market as the DSEX dropped 1.84% to 6,142 – the lowest since 30 June 2021.

Amid the macroeconomic headwinds that caused the exchange rate turbulence, rising inflation, and hurting the corporate earnings outlook, the broad-based index of the Dhaka Stock Exchange (DSE) declined by 7.7% in May alone and the last eight consecutive falling sessions caused over Tk33,000 crore capital erosion on the country's premier bourse.

Possible impacts

Experts told The Business Standard, in reaction to the margin rules relaxation, leverage is good when investments generate a positive return.

On the flipside, leverage has the toxic power to ruin an investor if prices fall sharply as the lender never owns the portfolio losses.

However, the immediate help from the relaxation would be that some stressed investors' accounts might avert a forced liquidation.

According to margin rules, in a declining market when an investor's capital erodes and the remaining asset only belongs to the margin loan provider, the broker or merchant bank may forcefully sell off the securities to recover the loaned money.

In the last two-three trading sessions, many brokers had to trigger such forced selling in many client accounts to save their backs, said market people, adding that they were worried that further fall in the market might sharpen forced selling.

Besides, investors who find good stocks being undervalued in the declining market are also being offered to use more borrowed funds to put more buy orders.

However, the market nowadays is not cheering leverage like it used to do in the bull market of 2009-10, as the then verbal prohibition of forced selling from client accounts ruined both the investors and their broker-merchant banks.

Sitting tight with the leveraged investments in a declining market, thousands of investors ended up with negative equity, instead of zero equity, while no practical way to recover the loans ruined some market intermediaries as their balance sheets are full of toxic loan portfolios of several thousand crores of taka.

Also, market intermediaries are much more conservative nowadays in the business of margin lending. The majority of broker-dealers are not providing margin loans up to the maximum allowable limit of 80%.

However, the leverage relaxation created a room for risk-taking investors to pour more funds into stocks and now it is up to them if they would or not, said a top executive at a brokerage firm.