Stock market regulator Securities & Exchange Board of India (Sebi), as promised earlier, has reviewed the Securities Lending and Borrowing (SLB) framework and instructed the exchanges and depositories to extend the tenure from present seven days to 30 days.

In a circular in October, Sebi had mentioned its disapproval to the foreign institutional investors (FIIs) lending shares for short sales purpose in the overseas markets. The regulator had also mentioned that they would be working on strengthening the domestic SLB scenario. It was in April that new SLB framework became operational, but there were few takers for this. This, was also one of the reasons why overseas investors preferred to have short sales transactions in the over the counter (OTC) market overseas.

The lack of popularity to the SLB was due to various reasons. Prime amongst them was that the lending mechanism was only for seven days, hence somebody who wanted to go short on particular scrip, had to return the borrowed shares in seven days. Regulations do not allow for ?naked short sales? wherein speculators can sell shares that they don?t own. In naked short selling, they could take a short position in the market and on the day of the delivery pay the difference to settle the trade of carry the position forward, as was in the earlier badla days.

The seven days period hence was seen as being cost ineffective and various institutions had made recommendations for extending the period for three to four months. ?This would make the SLB mechanism more attractive to us,? says a senior executive with an FII. The extension of the period is a welcome move, though we wanted a longer period, but we will evaluate it come out with strategies, he added.

Another grievance of the trading community was the trading window where SLB activity was to happen from 10 am to 11 am. This has now being changed to 9:55 am to 3:30 pm.

The regulator has also mentioned norms on the corporate action, like dividend declaration, bonus issues and stock splits, which could take place when the stock is lent out. In case of a dividend declaration, Sebi says, ?The dividend amount would be worked out and recovered form the borrower at the time of reverse leg and passed on to the lender.?

And when there is a stock split, the positions of the borrower would be proportionately adjusted so that the lender receives the revised quantity of shares. In case of other corporate action like bonus issues, amalgamation and open offer, the broad guideline state, ?The transactions would be foreclosed from the day prior to the ex-date. The lending fee would be recovered on a pro-rata basis from the lender and returned to the borrower.?

These, also were a few guideline that the market was expecting clarity about.

However, it is the margining involved in short sales that was a sore point for many participants. Unlike the cash market where there three margins and the futures and options where there is a fixed margin, there are five types of margins levied on trades in the SLB segment. These include, value at risk (VaR) margins, extreme loss margins, mark-to-market (MTM) margins, fixed percentage of lending price, which is to be paid by both the borrower and lender and lastly a fixed percentage of lending fee, which is paid by the borrower.

This mechanism, while ensures strong risk management, makes it cost ineffective for the participant as sometimes the margins are more than the stock that is being borrowed. And, the same stock is also available on the F&O market where margins range between 25- 35%.

On this matter the Sebi note says, ??, it is advised that common risk management practices shall be followed by stock exchanges for SLB. It is reiterated that the exchanges should ensure that the risk management framework strikes a balance between ensuring commercial viability of SLB transactions and ensuring adequate and proper risk management. Exchanges should satisfy themselves regarding the adequacy of the risk management system.?

Traders and dealers expect more clarity in the margining system before they express their joy. However, the fact that the Sebi has come out with these regulations with great speed, is being seen as a positive move. ?It has actually signalled that it wants to strengthen the short-selling market that provides liquidity and not ban it as was expected a few days ago,? says Ramniklal Sethia, a Mumbai-based trader.