The Securities and Exchange Commission (SEC) is tightening the criteria for margin loans, aiming to strengthen risk management among securities companies and reduce price volatility in the securities market.
The SEC asked for public opinion on more effective management of risks associated with securities used as collateral in margin accounts, mitigating problems such as payment defaults, bad debts, and forced sales of collateral.
The move aims to enhance the stability and credibility of the capital market, the SEC said in a statement.
A margin account is a brokerage account that allows a trader to borrow money from their broker to purchase securities, such as stocks, options or futures.
"Securities companies offer margin loans to investors to help them amplify returns on investments. However, the SEC has observed cases where the value of stocks used as collateral has sharply declined due to various factors, prompting forced sales of collateral, often at prices insufficient to cover outstanding loans, harming securities companies and undermining market confidence," said the statement.
In addition, some securities companies have extended margin loans disproportionately to their financial capacity, or have concentrated loans among specific customers or types of collateral. These practices further exacerbate risks, particularly in scenarios involving forced sales of investment units, which may trigger declines in net asset value and redemption pressures on other investment units, noted the regulator.
Certain practices, such as issuing loans against securities to related parties without defined purposes, have also raised concerns about deviations from the intended purpose of margin loan transactions, said the SEC.
To address these issues, the SEC proposes several key measures to enhance the risk management framework for securities companies.
The first is increasing the initial margin rate for newly listed or initial public offering shares to mitigate the risk of collateral insufficiency in covering debts.
Stricter lending criteria will also be applied to align lending limits with the financial standing of securities companies, as well as tighter controls on securities firms' total outstanding debt and limits on loans to individual customers, noted the regulator.
Thresholds are planned for the concentration of collateral from each customer relative to the total outstanding shares, as well as requirements for securities companies to monitor customer trading behaviour to prevent inappropriate practices.
To enhance credit risk management, the SEC mandates securities firms call for additional collateral from customers (margin calls) and enforce timely repayment of margin loans to manage credit risk effectively.
In addition, investment units are removed from the list of eligible marginable securities, barring their use as collateral in margin loan and securities borrowing and lending transactions, said the SEC.
Finally, regulations for loan usage are being introduced to ensure margin loans are used exclusively for securities trading, preventing transactions such as purchases of large securities lots by related parties that fall outside the scope of permissible margin loan activities.
"These measures aim to strengthen the resilience of securities companies and the broader capital market by addressing key vulnerabilities in margin loan practices," said the SEC.
By improving risk management and limiting practices that could destabilise the market, the SEC wants to safeguard investor confidence and ensure sustainable market operations. Stakeholders are encouraged to provide feedback on the proposed criteria to help shape a robust and effective framework, noted the regulator.