Today, smart investors are choosing to pledge their ETFs to obtain margin rather than selling them. This allows them to utilize additional funds while retaining their holdings, which is beneficial for trading and short-term opportunities. This approach not only improves financial planning but is also more tax-efficient. In this blog, we will explain the rules, benefits, and risks associated with ETF pledging in simple terms.
What Does Pledging ETFs for Margin Mean?
When you pledge your ETF holdings as collateral with your broker instead of selling them, it’s called pledging. In return, you receive additional margin for trading. Simply put, your ETF units remain in your demat account, but the broker considers them as security and provides you with funds.
What is the difference between selling and pledging an ETF?
| Point | On selling ETFs | On pledging ETFs |
|---|---|---|
| Ownership | You lose ownership | You remain the owner |
| How funds are received | After selling the ETF | Without selling |
| Tax impact | Capital gains tax may apply | No tax impact |
| Dividend benefit | No dividend | Dividend continues |
Does the ETF remain in your name after pledging it?
Yes, absolutely. Even after pledging, the ETF remains in your demat account. The only difference is that the broker has a security right over it. The ETF remains pledged until you repay the margin loan.
Your rights remain intact
Even after pledging the ETF:
- You remain the true owner.
- You receive dividends.
- You benefit from any corporate actions (such as splits, dividends).
- Just remember that you cannot sell the ETF while it is pledged.
How do you receive dividends and benefits from corporate actions?
If a dividend is declared on your pledged ETF, it will be credited directly to your account. Similarly, if there is a unit split or any other corporate action, it will be applied in the usual way.
Read Also: Margin Pledge: Meaning, Risks, And Benefits
Key Rules for Pledging ETFs
Before pledging ETFs for margin, it is crucial to understand these important rules to avoid any potential losses.
| Rule | Meaning |
|---|---|
| Haircut % | The broker deducts a portion of the ETF value as security. |
| Approved ETFs | Only highly traded (liquid) ETFs are accepted. |
| Daily MTM | The margin value is updated daily. |
| Interest Charges | No interest is charged for intraday trades. |
| Liquidation Risk | The broker can sell the ETF if its value falls below initial margin. |
What do SEBI regulations say?
According to SEBI, all securities must now be pledged through the CDSL/NSDL system. This makes investors’ holdings more secure, and prevents anyone from using shares or ETFs without permission. This rule has been implemented to increase transparency and safety.
Why do different brokers have different policies?
Each broker has:
- A different haircut percentage
- A different interest rate for overnight trades
- Different policies regarding which ETFs can be pledged
Therefore, always check your broker’s margin policy before pledging your securities.
How to Pledge ETFs?
The process of pledging ETFs is similar across almost all brokers. Whether you’re using the Pocketful app or another trading platform, the basic steps remain the same:
Step 1: Log in to your trading app
First, log in to your broker’s app or website (such as Pocketful).
Step 2: Go to the Holdings section
Go to your portfolio and select the ETF you want to pledge.
Step 3: Select the Pledge option
Click on the Pledge or Margin option provided next to the ETF.
Step 4: Verify with OTP
You will receive an OTP on your registered mobile number from CDSL/NSDL. Enter the OTP to confirm the process.
Step 5: Wait for margin credit
After confirmation, the specified margin will be credited to your account within a short time.
Read Also: MTF Pledge vs Margin Pledge – Know the Differences
Key Rules for Pledging ETFs
Before pledging ETFs for margin, it is crucial to understand these important rules to avoid any potential losses.
| Rule | Meaning |
|---|---|
| Haircut % | The broker deducts a portion of the ETF value as security. |
| Approved ETFs | Only highly traded (liquid) ETFs are accepted. |
| Daily MTM | The margin value is updated daily. |
| Interest Charges | Interest is charged on the margin used. |
| Liquidation Risk | The broker can sell the ETF if its value falls. |
What do SEBI regulations say?
According to SEBI, all securities must now be pledged through the CDSL/NSDL system. This makes investors’ holdings more secure, and prevents anyone from using shares or ETFs without permission. This rule has been implemented to increase transparency and safety.
Why do different brokers have different policies?
Each broker has:
- A different haircut percentage
- A different interest rate
- Different policies regarding which ETFs can be pledged
Therefore, always check your broker’s margin policy before pledging your securities.
Which ETFs Are Eligible for Pledging?
Not all ETFs can be pledged. Generally, only those ETFs with good liquidity and stability are accepted.
ETFs that are commonly accepted :
- Nifty 50 ETFs : Easily accepted due to high trading volume
- Sensex ETFs : Considered reliable due to the stable index
- Gold ETFs : Accepted by many brokers due to low volatility
- Liquid ETFs : Due to low risk and high liquidity
ETFs that are not easily accepted:
- Low Volume ETFs : Those with low trading activity
- Sector-based ETFs : Due to higher volatility
- International ETFs : Many brokers do not allow them due to foreign exposure
Benefits of Pledging ETFs
- Funds without selling holdings : Pledging your ETFs means you don’t have to sell your long-term investments. Your holdings remain secure, and you get the funds when you need them.
- Lower interest rates : Compared to personal loans or credit cards, the margin received against pledged ETFs typically comes with lower interest rates.
- Continued dividend income : Even after pledging your ETFs, you remain the true owner, so you continue to receive dividends and other benefits.
- Tax savings : Since you are not selling your ETFs, capital gains tax does not apply.
- Flexible use of funds : You can use the margin received for trading or to meet your short-term financial needs.
Read Also: Pledging Shares vs Pay Later (MTF): Key Differences
Risks to understand before pledging ETFs
- Market Volatility : If the market falls sharply, the value of your pledged ETFs may decrease. This can also reduce your margin.
- Forced Liquidation : If your account falls below the required margin level and you don’t add funds, the broker may sell your ETFs.
- Interest Burden : The more margin you use, the more interest you will have to pay. Holding positions for a long time can increase costs and reduce profits.
- Risk of Over-Leveraging : Easy access to funds can lead many people to trade excessively, increasing the risk of losses.
- Margin Call : If the market falls, the broker may ask you to deposit additional funds, which is called a margin call.
- Increased Haircut : During periods of sharp decline, the broker may suddenly increase the haircut, which reduces the available margin.
- Decreased Collateral Value : As the price of the ETF falls, the value of your pledged collateral also decreases, affecting your trading capacity.
Conclusion
If you ever need money but don’t want to sell your ETF investments, pledging them can be a good option. Just be sure not to take on excessive margin and check your account regularly. With proper control and planning, this facility can be helpful, but carelessness can be costly. So, make your decision wisely.
Frequently Asked Questions (FAQs)
Can I pledge all ETFs for margin?
Not all ETFs are eligible for pledging. Only highly traded and stable ETFs are accepted.
Is my ETF safe after pledging?
Yes, the ETF remains in your demat account. You remain the owner.
Will I receive dividends on my pledged ETF?
Yes, you will receive dividends even after pledging.
What happens if the market falls?
The value of the ETF may decrease, and the broker may issue a margin call.
Can the broker sell my ETF?
If the margin falls below the required level and you fail to add funds, the broker can sell your ETF.
