What Is a Stock Loan and How It Works?
Often times when one obtains financing from a bank or other financial institution, this person needs some form of collateral. Common forms of assets required may be homes, vehicles, or other properties as investments. Now borrowers can take out loans against the stock they own.
Such a loan can be either secured or unsecured. A secured loan is deemed as a convertible loan providing the loan stock can be turned into common shares according to pre-established stipulations along with a specified conversion rate.
For some firms, all they do is process loan stock transactions. More than ever before, stock loan programs are available to enable investors to keep what stock they have and still be able to get cash to make a block purchase of alternative investments. Those whose portfolios carry a high percentage of stocks but desire greater diversification can truly benefit from stock loans. This form of financing is becoming more popular around the world.
With stock loans, holders can take out a non-recourse loan for as much as 90% of the total value of all stocks combined. This means their stock is the only collateral and if the borrower defaults, they will not lose their personal possessions. Each loan has a hedge enabling the borrower to walk away if the value of their stock declines. They can do so without damage to their credit or retribution from the lender. During the life of the loan, the stock owner can still retain many of the benefits of their borrowed-against stock and remain free to use the cash for other investments.
Loan to value (LTV) is a stock loan term which means the total percentage of the borrower’s stock he or she can make a loan against. It is calculated depending on stability, trading volume, and the price of the stock itself. What exchange it is traded on also determines the LTV. Stocks traded on major exchanges usually have higher LTV rates, typically 75 to 90 percent.
Each stock loan has its own unique terms. Some loans carry fees such as interest (usually 3 to 5 percent) and/or loan origination charges (about 4 to 11 percent of the loan proceeds). Origination fees are based according to the loan type. Interest can be paid monthly with the accrual option or at maturity as in a balloon style loan.
Most holders take out loans for two, three, or five years, typically borrowing $50,000 to $100,000. Whether the loan is small or large, it takes the same amount of time and energy on the lender’s behalf. Hence, corporations prefer that borrowers take out larger loans.