Goldwyn Capital
You asked your broker for a margin loan against your shares and got one of two answers. Either the stock “isn’t marginable,” or it is, and the broker will lend so little against it that the loan hardly seems worth setting up.
Both answers come from three layers of rules. A Federal Reserve regulation decides which stocks can be margin collateral at all, a FINRA rule sets the minimum cushion, and your broker’s own policy sits above both. Knowing which one said no tells you whether another broker would answer differently.
What “marginable” means under Regulation T
Lending by brokers against securities is governed by the Federal Reserve’s Regulation T (12 CFR 220), which defines a “margin security” in a short list. For stocks, the main entries are shares registered, or with unlisted trading privileges, on a national securities exchange, and shares listed on Nasdaq. Shares of a US company that trade only over the counter fit none of the entries. The regulation once included a Federal Reserve list of OTC margin stocks, but that category counted only until January 1, 1999.
For a margin equity security, Regulation T sets the required margin at 50 percent of current market value, which in general lets a broker lend up to half the stock’s value. For a “nonmargin, nonexempted equity security,” the required margin is 100 percent. That stock has no loan value in a margin account. FINRA notes you can still buy and hold it there. You just can’t borrow against it.
What FINRA Rule 4210 adds
FINRA Rule 4210 sets the maintenance requirement, the equity you have to keep in the account after the loan is made. For margin securities it is at least 25 percent of current market value. For each “non-margin eligible equity security” it is 100 percent, so for an OTC-only stock the two rules land in the same place.
The rule also says when firms must ask for more. Under paragraph (f)(1), “substantial additional margin must be required” where securities are “subject to unusually rapid or violent changes in value,” lack an active market on a national securities exchange, or are held in an amount that “cannot be liquidated promptly.” A large holding in a thinly traded stock can raise more than one of those concerns at once.
Why a listed microcap can still get a small percentage
If your stock is listed, a low offer reflects the broker’s own requirements. Regulation T says it does not stop a broker “from imposing additional requirements or taking action for its own protection,” and Rule 4210(d) requires firms to “formulate their own margin requirements.”
FINRA has addressed low-priced stocks directly. Its 2011 guidance says price volatility is more often associated with low-priced equity securities, and that lower volumes can bring large price swings within a single day. It tells firms to weigh volatility, concentrated positions, daily volume and market capitalization when setting house maintenance requirements. It also calls it a best practice to pay close attention to low-priced stocks when deciding how much credit to extend to any one customer.
FINRA’s guidance for investors adds that a firm may restrict margin on stocks that don’t trade on a national exchange and on stocks it considers prone to large daily price swings, and that it can raise house requirements on a stock at any time without advance written notice.
Neither Regulation T nor Rule 4210 sets a share price below which a listed stock stops counting as a margin security. If your broker uses a price cutoff, that is its own policy, so ask what it is.
Would another broker say yes?
If your stock trades only over the counter, the 100 percent requirement comes from Regulation T and Rule 4210, which apply to brokers generally. Moving the shares to another firm is unlikely to change that.
If your stock is listed, the limit is more likely a house requirement, and those vary from firm to firm. Ask a new firm whether the stock is marginable there, what maintenance requirement it applies, whether it caps the credit it will extend against a single position, and whether those terms can change while your loan is open.
Your other options
Selling part of the position raises cash without borrowing. You give up those shares, though, and in a thinly traded stock a large sale may not fill quickly at the quoted price, which is the same problem your broker is pricing in.
Borrowing against something else, such as a home equity line, leaves the stock where it is but puts your home behind the debt.
How a non-recourse stock loan treats the same shares
The lender Goldwyn Capital works with, an independent US family office, typically looks at trading volume and resale status. The stock usually needs to trade around 100,000 shares a day or more, and a stock trading under about 10,000 shares a day usually doesn’t qualify. The shares must be free trading, eligible for resale under Rule 144, or registered, and the lender can take up to 4.99% of a company’s outstanding shares.
You transfer the shares to the lender’s custody account for the life of the loan, and the lender wires you 30 to 50% of their market value (more for heavily traded stocks), from $50K to $5MM depending on the size of the position. Interest is 5 to 7% a year, simple, fixed for the term and paid quarterly, with any fees listed on the term sheet. The term is 3 years. You can repay from month 24, with a penalty before that, and the shares are returned when you repay.
Non-recourse means the shares are the only thing securing the loan. There is no credit check and no personal guarantee.
Say you hold $1,000,000 of a US company’s stock that trades only over the counter, around 200,000 shares a day. In a margin account it has no loan value. If the lender approves it, a loan at 40% would put $400,000 in your account, and at 6% simple interest you would pay $6,000 a quarter.
If the stock falls 25% below the level the loan closed at, you get an equity call: 5 to 10 business days to top up with cash, stock or other securities. If you choose not to, the loan closes. You keep the $400,000, the lender keeps the shares, and you owe nothing further. Our comparison of how a stock loan and a margin loan behave when the price drops walks through that scenario side by side.
What to check before you sign
- Your shares leave your account. They sit in the lender’s custody account for the life of the loan, title can transfer, and they are returned when you repay.
- Depending on how the loan is structured and where you live, transferring shares to a lender can be a reportable tax event, so talk to a tax adviser before signing. Goldwyn Capital does not give tax advice.
- You benefit from a rise in the stock when you repay, on the terms written into your term sheet.
- Officers and directors need shares registered for resale. Section 16 filers should expect to report the loan on Form 4, so confirm that with your company’s counsel, and check whether your company’s insider trading policy restricts pledging.
