Avoid loan against stocks

Besides a low loan-to-value there are very stringent guidelines

Equities may be a good long-term investment avenue. But they do not give much pleasure if you want to pledge them to raise money. While banks do extend loans against shares, they have several conditions for it.

Most don't give more than 50% of the value of the security. So, if you want a loan of Rs 5 lakh you should have securities worth Rs 10 lakh to pledge. These have to be scrips of top-rated companies. Even if the bank does not insist for shares of a particular company, they may agree to sanction the loan only if the company is a triple 'AAA' rated company.

The list of stocks is small. So, if your portfolio consists of largely small-cap companies then you may find raising funds against it quite tough. “We prefer stable companies because the stock market is volatile and prices see huge fluctuation. In case prices decline, we only have these shares to fall back on in order to recover our money,'' says the head of retail loans of a public sector bank.

As against this, banks prefer to lend against property since in such loans the property is a collateral. And usually, the property price is likely to move upwards, thereby taking care of any risk the bank may face in case of non-repayment by the borrower. But this is not the case with loans against shares, which is why banks are not keen on offering it.

Mahesh Dayani, Country Head, retail assets, ING Vysya Bank, says that the bank does offer loans against securities but only against multiple scrips. "We don't lend against single scrips," he says. This is a hedge for the bank in case the price of that one particular share dips sharply.

While ING Vysya mainly gives loans against shares as overdraft, some banks offer it as a term loan. The advantage of an overdraft is that the borrower has to pay interest only for the amount that is utilised.

In case of a loan against property, not only will you get a larger amount of loan - about 65% of the property value, but the interest rate is also about 100 basis points lower than loan against securities. But it may be more time consuming since the bank will verify all the property documents and carry out a valuation of the property before sanctioning the loan. As compared to this, a loan against securities could be faster.

According to Adhil Shetty, CEO of Bankbazaar.com, one of the biggest drawbacks in case of loan against shares is the low Loan to Value (LTV) ratio. "While loans against shares are cheaper than personal loans, the low LTV is a big negative. Another restriction is set of shares that the bank will accept. So, these loans could prove to be quite cumbersome,'' he says.

In many cases, the end use of the loan too is a concern for the bank. Most banks will insist on an undertaking from the borrower that money will not be used for speculative purposes.