BSEC weighs more flexible margin financing rules; may replace P/B with of P/E 

The Bangladesh Securities and Exchange Commission (BSEC) is likely to withdraw the price-to-book (P/B) ratio as a condition for margin loans against shares of banks and non-life insurance companies and instead use the price-to-earnings (P/E) ratio as the main valuation benchmark across sectors, officials familiar with the matter said.

The revised margin lending rules may be placed before the BSEC commission meeting tomorrow (11 August), where a final decision could be taken.

The proposed framework is expected to be more flexible than the draft rules, particularly for bank and non-life insurance shares. The maximum P/E ratio may be raised to 40 from 30 proposed in the draft.

Life insurers may remain under a separate arrangement, with flexibility in applying the P/B ratio.

Draft had P/B limits for banks and insurers

Under the draft rules, P/B was proposed as a key criterion for determining the eligibility of shares of banks, non-bank financial institutions (NBFIs) and insurance companies for margin financing.

The draft set a maximum P/B ratio of 3 for banks and 1 for insurance companies. Shares exceeding those thresholds would have been ineligible for margin loans.

The BSEC is now considering dropping the P/B condition for banks and non-life insurers and applying a common P/E-based framework instead.

The proposed P/E would be based on trailing earnings, comparing the current share price with earnings per share generated over the previous 12 months. The ratio would change as companies report new quarterly earnings.

The draft had triggered negative reactions among investors, particularly in margin-eligible stocks, leading to significant adjustments in some shares.

P/E ceiling may rise to 40

The draft proposed a maximum P/E ratio of 30 for companies in general sectors. The revised framework may raise the ceiling to 40.

If approved, shares with a trailing P/E of up to 40 could qualify for margin financing, subject to other eligibility requirements.

The higher ceiling could bring some relatively high-valued companies within the margin financing framework.

Margin financing capacity to increase

The BSEC has undertaken the reforms partly to improve capital market liquidity by increasing the financing capacity of margin financiers, including stockbrokers, merchant banks and portfolio managers.

Under the draft, a margin financier would be allowed to provide financing of up to five times its core capital or net worth, compared with the existing limit of three times.

The higher ceiling could increase investors' purchasing power and market turnover.

The draft also proposed reducing the minimum investment required for margin financing from Tk5 lakh to Tk3 lakh. 

However, the CEO Forum has proposed raising it to Tk10 lakh and a common P/E benchmark applied across sectors except life insurance.

It has also proposed raising a margin financier's maximum exposure to a single security from 20% to 30% of total funds.

The forum further proposed a forced-sale threshold of 40% equity, compared with 50% in the draft.

More flexibility in margin calls and forced selling

The latest BSEC proposal would give investors more room before their securities are forcibly sold.

If an investor's equity falls below 50%, the financier would issue prior notice. Securities could be liquidated without prior notice only if equity subsequently falls below 25%.

The draft rules had proposed a stricter mechanism, under which investors would have three trading days to restore required equity after a margin call. Securities could be liquidated without prior notice once equity fell below 50%.

The revised approach could reduce forced selling pressure during short-term market volatility.

Again, the draft had capped a margin financier's exposure to a single security at 20% of total funds. The CEO Forum has proposed raising the limit to 30%.

While the higher limit could increase financing for fundamentally strong and actively traded stocks, it could also raise concentration risks.

Restrictions on weaker stocks to remain

Despite the proposed relaxation, Z, N and G category companies, SME-listed securities, and stocks listed on the ATB and OTC platforms are expected to remain ineligible for margin financing.

Only A and B category main-board shares would qualify under the draft. The proposed margin financing ratio is 1:1 for general securities and 1:0.25 for listed life insurers.

Liquidity boost, but risks remain

The reforms aim to improve market liquidity by expanding access to margin financing and increasing financiers' lending capacity.

However, greater leverage could encourage speculative trading and amplify losses during market downturns through margin calls and forced selling.

The BSEC is expected to decide tomorrow on the P/B condition, P/E ceiling, minimum investment, forced-sale thresholds and single-security exposure limit.