SEBI’s securities lending reforms: The Securities and Exchange Board of India is preparing to overhaul India’s securities lending and borrowing market. The regulator has identified SLB as an area that needs reform to improve price discovery and strengthen the link between the cash and derivatives markets. Its chairman, Tuhin Kanta Pandey, has said a consultation paper will be issued soon. The paper has not yet been published, but measures under discussion reportedly include net settlement, interoperability in SLB and a wider universe of eligible stocks.
The timing is important. India has introduced a Closing Auction Session for eligible shares, giving the closing price greater importance as an outcome of an auction rather than the earlier closing-price methodology. A well-functioning auction requires traders to be able to act on differences between cash and derivatives prices. That, in some cases, requires access to borrowed stock.
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SLB provides that mechanism. An investor holding shares can lend them for a fee, while a borrower can use the shares to deliver against a short sale, execute an arbitrage trade or meet a settlement obligation. SEBI permitted short selling by all classes of investors and established the framework for a full-fledged SLB scheme in December 2007. NSE Clearing launched its SLB platform in April 2008. Nearly two decades later, SEBI itself sees a case for redesigning the mechanism.
Closing auctions raise the stakes
The Closing Auction Session currently applies to cash-market stocks on which derivatives contracts are available. It runs from 3.15 pm to 3.35 pm. The reference price is based on trades between 3 pm and 3.15 pm, while the auction determines an equilibrium price according to executable volume and order imbalance.
This creates a direct connection with securities lending. Suppose the price of a stock in the cash market diverges from its futures price near the close. An arbitrageur may want to sell the stock and take the corresponding position in futures. If the stock is not already in the portfolio, it has to be borrowed.
An active SLB market therefore gives arbitrageurs another means of correcting price discrepancies. It cannot guarantee an efficient closing price. It can remove one constraint on traders willing to act when prices in different segments move out of line.
NSE has already introduced a shorter-tenure SLB contract for stocks in the derivatives segment. The new series has a three-working-day expiry and a T+3 reverse-leg settlement, adding an instrument suited to relatively short-lived borrowing requirements.
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The problem is weak incentives on both sides
The difficulty with securities lending is that supply and demand depend on each other. A shareholder will lend stock only when the fee compensates for the transaction and its associated obligations. A borrower needs an arbitrage, short-selling or settlement opportunity large enough to justify the borrowing cost.
A thin market makes both calculations less attractive. Limited borrowing interest discourages lenders from offering stock. Limited availability can make it harder or more expensive for borrowers to execute a trade.
This helps explain why changing eligibility rules alone may achieve little. NSE’s SLB market displays lending fees, open positions, cash and futures prices, spreads, annualised yields and trading volumes security by security. Most securities currently eligible for SLB are drawn from the derivatives segment.
Expanding the eligible universe could give arbitrageurs and other participants more instruments to work with. The benefit will depend on whether those securities attract actual borrowing demand.
Netting could remove a genuine cost
The more consequential reforms under discussion concern settlement. According to reports on SEBI’s deliberations, the regulator is considering net settlement within SLB, netting between SLB and the cash market, and interoperability for SLB transactions across exchanges. These proposals remain under discussion pending the consultation paper.
Netting matters because offsetting trades can otherwise leave a participant carrying separate settlement, collateral and funding obligations. If an investor sells a share short in the cash market and borrows the same security through SLB, allowing the two legs to be recognised together at the clearing level could reduce the resources tied up in the transaction.
Interoperability could address another source of friction. Participants operating across trading venues should not have to duplicate arrangements simply because liquidity is divided between exchanges. If they can access borrowing opportunities more efficiently while retaining robust clearing and risk controls, the market becomes easier to use.
These are worthwhile changes because they address the cost of participating in SLB. They still cannot manufacture an economic reason to borrow a security.
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Mutual fund rules need to be read carefully
The role of mutual funds is particularly important because discussion around SLB sometimes starts from the assumption that they are barred from short selling. The current SEBI framework is more nuanced.
SEBI’s March 2026 Master Circular for Mutual Funds states that schemes may engage in short selling as well as securities lending and borrowing after making the required disclosures. Scheme documents must disclose the intention to lend securities and the applicable exposure limits for the scheme and for a single intermediary.
The regulations also make a specific provision for equity-oriented index funds and ETFs. Borrowing arising from under-execution of sell trades is permitted for their participation in the Closing Auction Session, subject to the prescribed conditions.
The more useful policy question, therefore, concerns incentives and execution. Do institutional investors have enough reason to lend or borrow securities? Are the economics attractive after collateral, settlement and operational costs? Can the process fit comfortably into the systems used by asset managers, custodians and clearing corporations?
There is also a legitimate risk argument around easier access to borrowed securities. A more efficient SLB market can facilitate short selling. That calls for appropriate margins, surveillance and position controls. India already prohibits naked short selling and requires short sales to result in delivery, with the SLB mechanism providing a formal route for borrowing the securities required for settlement.
Making borrowing cumbersome is a poor substitute for sound risk management.
SEBI should therefore resist judging the reform by SLB turnover alone. If shorter contracts, netting and interoperability lower the cost of borrowing where a genuine arbitrage or settlement need exists, activity should follow. If the commercial incentive remains weak, a larger list of eligible securities will make little difference.
The Closing Auction Session has made the issue more immediate. Cash equities and derivatives cannot produce consistently efficient prices if participants face avoidable obstacles when moving between the two markets. A useful SLB system is part of that connection.