Margin trading facility
Also written MTF · Margin trading facility (MTF) · Margin trading
A SEBI-regulated facility in which a stock broker lends part of the purchase price of eligible shares or equity ETFs to a client, holds the bought stock as pledged collateral and charges interest.
In plain language
Margin trading lets an investor buy more shares than his own money would pay for. The client puts up part of the value as margin; the broker funds the rest and charges interest. The shares bought with borrowed money are called funded stocks, and they stay pledged to the broker until the loan is repaid.
Leverage cuts both ways. If the shares rise, the client's gain on his own money is magnified. If they fall, so is the loss - and when his margin runs short, the broker makes a margin call and can sell the shares if he does not pay.
Because the broker is lending, SEBI decides who may offer the facility, which securities qualify, how much margin is required, where the broker's money may come from, and how much it may lend in total and to any one client.
How it works
From Chapter 8 (section 8.7, Margin Trading):
Eligibility. Only corporate brokers with net worth of at least Rs 3 crore, with prior permission of the exchange, which may later withdraw it with reasons.
Eligible securities and initial margin. Group 1 securities and equity ETFs:
| Category | Initial margin |
|---|---|
| Group 1 stocks available in F&O | VaR + 3 times ELM |
| Other Group 1 stocks and equity ETF units | VaR + 5 times ELM |
Margin may be in cash, cash equivalents or Group I shares / equity ETF units with haircuts. Collateral and funded stocks are marked to market daily. Higher collateral value may earn further exposure; higher value of funded stocks may not.
Sources of funds. Own funds; borrowings from scheduled commercial banks and/or RBI-regulated NBFCs; commercial paper; unsecured long-term loans from promoters and directors. Never another client's funds, even with that client's consent.
Limits. Total MTF indebtedness <= 5 times net worth. Maximum allowable exposure <= borrowed funds + 50% of net worth. Exposure to any single client <= 10% of maximum allowable exposure. Exposure = outstanding funded amount - cash collateral used for pay-in.
Liquidation. Conditions go into the Rights and Obligations document, but not exceeding 5 working days from the day of the margin call.
Custody and reporting. Funded stocks are held only by pledge, in a demat account tagged 'Client Securities under Margin Funding Account'. Brokers disclose MTF exposure to exchanges by 6 p.m. on T+1; MTF books are audited half-yearly. MTF disputes go through normal grievance and arbitration, but losses from the MTF are not covered by IPF.
The formula
Initial margin (Group 1 F&O stock) = VaR% + 3 x ELM% Initial margin (other Group 1 stock / equity ETF) = VaR% + 5 x ELM%
Maximum allowable exposure = Borrowed funds for MTF + 50% x Net worth Single-client limit = 10% x Maximum allowable exposure Total MTF indebtedness <= 5 x Net worth
A worked example
These are the workbook's own numbers.
Client margin. A client buys a Group 1 F&O stock at Rs 100 under MTF. VaR is 12.5% and ELM is 5%.
Initial margin = 12.5% + 3 x 5% = 27.5%, i.e. Rs 27.50; the broker funds Rs 72.50.
If the Rs 27.50 cash is used for pay-in and the funded stock is kept as maintenance margin, the rate becomes VaR + 5 x ELM = 12.5% + 25% = 37.5%, on the lower of cost or market value of the funded stock (Rs 72.50).
Mark to market. The stock closes at Rs 100 on T and Rs 90 on T+1. MTM due on T+1 = Rs 100 - Rs 90 = Rs 10, and maintenance margin is VaR + 3 x ELM on Rs 90.
Broker limits. Net worth Rs 5 crore, MTF borrowings Rs 20 crore:
- Maximum allowable exposure = 50% x Rs 5 crore + Rs 20 crore = Rs 22.50 crore
- Single-client limit = 10% x Rs 22.50 crore = Rs 2.25 crore
- Indebtedness cap = 5 x Rs 5 crore = Rs 25 crore, so Rs 20 crore of borrowing is within it.
With no borrowings, the same broker could expose only 50% x Rs 5 crore = Rs 2.50 crore, and Rs 25 lakh per client.
Why NISM asks about it
Chapter 8 (Other Services Provided by Brokers, section 8.7) sets out the margin trading framework in full, with worked examples. Chapter 4 connects to it twice: the exception for MTF in the rule against further exposure to clients with debit balances beyond the fifth trading day (section 4.1.7), and the half-yearly net worth certificate for margin trading in the compliance calendar (section 4.2.1). Chapter 6 (section 6.3) exempts MTF funds and securities from periodic running account settlement. Expect calculations on the 5x, 50% and 10% limits and on VaR + 3/5 x ELM.
Common exam traps
- Only corporate brokers with net worth of at least Rs 3 crore can offer MTF.
- VaR + 3 x ELM for F&O stocks; VaR + 5 x ELM for non-F&O Group 1 stocks and ETFs. Easy to swap.
- Maximum allowable exposure = borrowed funds + 50% of net worth - not 50% of borrowed funds.
- Single client <= 10% of maximum allowable exposure, not 10% of net worth.
- No further exposure on appreciation of funded stocks, though appreciation of collateral can earn exposure.
- Client funds can never fund another client's MTF, even with written consent.
- IPF does not cover losses from MTF, although SGF and IPF are available for exchange transactions done under MTF.
- Liquidation window: not more than 5 working days from the margin call.
Check yourself
1.Which brokers are eligible to provide the margin trading facility?
- a)Any registered broker with net worth of ₹50 lakh
- b)Only corporate brokers with net worth of at least ₹3 crore
- c)Only individual brokers with net worth of at least ₹1 crore
- d)Any broker, with no net worth condition
Show the answer
Answer: (b) Only corporate brokers with net worth of at least ₹3 crore
Only corporate brokers with net worth of at least ₹3 crore are eligible for providing margin trading facility to their clients.
Both limbs matter — the corporate form and the ₹3 crore figure.
And permission is also required: the stock brokers wishing to extend margin trading facility to their clients shall be required to obtain prior permission from the exchange where the margin trading facility is proposed to be offered. The exchange shall have right to withdraw this permission at a later date, after giving reasons for the same.
Do not confuse this with the other net worth figures in the chapter. ₹50 lakh is the requirement for Internet Based Trading, where the broker must have a minimum net worth of ₹50 lacs if the broker is providing the Internet based facility on his own. And a portfolio manager needs net worth not less than five crore rupees.
Those three figures — ₹3 crore, ₹5 crore, ₹50 lakh — are the most commonly confused numbers in this chapter, and with 25% negative marking they are worth memorising precisely rather than approximately.
2.Are losses suffered by a client in connection with the margin trading facility covered by the Investor Protection Fund?
- a)Yes, fully covered
- b)No — such losses shall not be covered under IPF, though SGF and IPF are available for transactions done on the exchange generally
- c)Yes, up to 50% of the loss
- d)Only if the broker is declared a defaulter
Show the answer
Answer: (b) No — such losses shall not be covered under IPF, though SGF and IPF are available for transactions done on the exchange generally
SGF and IPF shall be available for transactions done on the exchange, whether through normal or margin trading facility. However, any losses suffered in connection with the margin trading facility availed by the client from the stock broker shall not be covered under IPF.
The distinction is between the exchange transaction — which is protected like any other — and the funding arrangement between client and broker, which is a private credit relationship the IPF does not stand behind.
That is consistent with the IPF's stated purpose from Chapter 7: it takes care of legitimate investment claims which are not of speculative nature of the clients of defaulting member(s), and claims arising out of speculative transactions shall not be eligible.
What the client does get: any disputes arising between the client and the stock broker in connection with the margin trading facility shall have the same treatment as normal trades and should be covered under the investor grievance redressal mechanism, arbitration mechanism of the Stock Exchange.
So the route is grievance redressal and arbitration, not the fund.
And the broker owes a duty upfront: a broker shall take adequate care and exercise due diligence before providing margin trading facility to any client.
3.How must funded stocks under the margin trading facility be held by the trading member?
- a)In the broker's proprietary demat account, in its own name
- b)Only by way of pledge, in a separate demat account tagged "Client Securities under Margin Funding Account", via an auto-pledge
- c)In the broker's pool account until the loan is repaid
- d)With the clearing corporation until the client repays
Show the answer
Answer: (b) Only by way of pledge, in a separate demat account tagged "Client Securities under Margin Funding Account", via an auto-pledge
Funded stocks held by the TM/CM under the margin trading facility shall be held by the TM/CM only by way of pledge. For this purpose, the TM/CM shall be required to open a separate demat account tagged "Client Securities under Margin Funding Account" in which only funded stocks in respect of margin funding shall be kept/transferred, and no other transactions shall be permitted.
The mechanism: such funded stocks shall be transferred to respective client's demat account followed by creation of an auto-pledge (i.e., without the requirement of a specific instruction from the client) with suitable reason, in favor of "Client Securities under Margin Funding Account".
So the securities land in the client's own account and are then pledged — the broker never owns them, which is precisely what options A and C would allow.
This account is one of the six categories of demat account a broker may maintain: Client Securities under Margin Funding Account — hold funded securities in respect of margin funding.
And collateral must stay separate: the stocks or units of Equity ETFs deposited as collateral... and the stocks or units of Equity ETFs purchased under the margin trading facility ("Funded stocks") shall be identifiable separately and no comingling shall be permitted for the purpose of computing funding amount.
Where this is taught
Free preparation for NISM Series VIIRelated terms
- HaircutThe percentage cut applied to the market value of collateral before it counts towards margin, so that a fall in its price does not leave the clearing corporation or broker under-covered.
- Value at RiskA statistical estimate of the most a position is likely to lose over a set holding period at a chosen confidence level — the idea behind the initial margin a clearing corporation charges on a derivatives trade.
- Extreme Loss MarginA flat 3.5 per cent margin collected on cash-market positions to cover losses falling outside what the VaR margin is designed to capture.
- Funded stocksShares or equity ETF units bought using money borrowed under margin trading, held only by pledge in a dedicated demat account and margined more heavily than the collateral backing the same facility.
- Investor Protection FundA trust-administered fund at every stock exchange and depository that compensates clients of a trading member who has been declared a defaulter or expelled, up to a per-investor limit the exchange fixes.
- Margin pledgeThe only permitted way for a client to give securities as margin — a special pledge created in the depository system that leaves the shares in the client's own demat account instead of transferring them to the broker.
- Running accountA client's written, revocable authorisation letting the broker keep the client's funds instead of paying them out within one working day of pay-out, subject to settlement at least every 30 or 90 days.
- LeveragingUsing borrowed funds rather than own funds to buy an asset — it can raise the return on the investment, and it magnifies the loss by the same mechanism.
- Capital adequacyThe minimum net worth an intermediary must have to be registered and must keep while registered — e.g. Rs 50 crore for a Category I merchant banker, Rs 75 crore for a custodian, Rs 10 crore for a debenture trustee.
- Commercial PaperA short-term, unsecured, discounted money market instrument through which eligible companies raise funds for 7 days to one year, issued in Rs 5 lakh multiples.
- Auto-pledgeThe automatic creation of a pledge over a client's funded stock in favour of the "Client Securities under Margin Funding Account," without needing a specific pledge instruction from the client.