Capital Markets

Use of shares as loan security drops further to 45pc

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Nairobi Securities Exchange (NSE) trading floor. FILE PHOTO | DIANA NGILA | NMG

The use of shares by investors as security for loans fell to 44.6 percent in the three months that ended December 2022, down from 54 percent in the previous quarter.

New data from the Capital Markets Authority (CMA) shows total share pledges at the end of last year stood at 6.278 billion units held by 40,290 investors in the review period.

This was down from 6.38 billion shares used as collateral in the prior quarter.

The total number of shares held by 1.7 million investors was, however, on the rise, jumping to 14.072 billion from 13.517 billion, which helped to reduce the portion of stocks used to secure borrowings.

Read: Investors use half of NSE shares to secure bank loans

The percentage of pledged shares had hit highs of 59.4 percent in the quarter that ended June 2021 when retail investors used 6.5 billion shares out of the total of 10.9 billion they held to obtain loans.

The jump in the number of shares held in the quarter under review points to increased share purchases by investors.

The capital markets regulator does not disclose the value of bank loans secured by the pledged shares nor the worth of the encumbered portfolio.

The pledging of shares is an avenue used by both individual investors and companies to secure loans to meet a variety of needs, including working capital requirements and ventures such as acquisitions.

Traditionally, holders of pledged shares retain the ownership of the instruments but are required to make up for the shortfall in collateral from fluctuations in share prices.

Banks typically issue loans at significant discounts to the prevailing price of shares to cushion themselves from losses due to both defaults and stock price declines.

Investors seeking to use their shares as loan collateral are required to fill out a pledge form alongside their bank.

The bank then notifies Central Depository and Settlement Corporation (CDSC), which marks the shares as pledged.

Investors are not allowed to sell the pledged shares. Banks, meanwhile, notify the CDSC to remove the pledge on shares when an investor pays the loan.

Banks still risk losses in the eventuality of both a borrower’s default and stock price declines.

Borrowing against shares helps investors to access their funds without selling their stocks at a loss or before reaping benefits, including through capital gains and dividends.

Persons using shares as collateral are mostly high-net-worth individuals as the bulk of borrowers secure their debt using assets such as property.

The decline in the use of share pledges in the quarter to December coincided with a decline in market activity at the close of 2022.

For instance, the Nairobi Securities Exchange (NSE) market capitalisation declined by 0.74 percent to Sh1.986 trillion at the end of the period.

Read: Use of shares for loans tumbles to 54 percent

Equity turnover declined by 23.2 percent to Sh17.46 billion from Sh.22.74 billion as the number of shares traded fell to Sh634 million.

Moreover, the market decline was characterised by continued portfolio outflows by foreign investors who took their net outflows last year to Sh24.4 billion.

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