Basic Terms5 min read

What is Hypothecation of Shares? Pledge vs Hypothecation Difference

Hypothecation of shares means creating a charge on your shares as security for a loan without transferring ownership or possession to the lender. The shares remain in your demat account without any movement or lien mark. The lender has a legal right over the shares but does not hold them in their custody.

Think of a car loan. You drive the car every day while the bank has a hypothecation on it. The car is yours to use, but if you stop paying the loan, the bank can repossess it. Hypothecation of shares works similarly. You hold and can even sell the shares, but the lender has a legal claim if you default.

How is Hypothecation Different from Pledge?

Feature	Pledge	Hypothecation
Ownership transfer	No	No
Possession	Marked as pledged in demat	Remains unmarked in demat
Selling restriction	Cannot sell without unpledging	Can sell freely (unless agreement restricts)
Lender control	Direct control via pledge mark	Legal claim only, no direct control
Common use	Broker margin for F&O	Loan against shares from banks/NBFCs
SEBI regulation	Depository-level pledge system	Governed by loan agreement terms

When is Hypothecation Used?

Hypothecation is commonly used when you take a loan against shares from a bank or NBFC. The lender records the hypothecation in their books and may file a charge with the Registrar of Companies if applicable. The shares serve as security, but the operational control remains with you unless you default.

In the broker context, SEBI's current framework uses the pledge mechanism through depositories rather than hypothecation. This gives brokers direct control over the collateral, which is more secure for them.

Investments in securities market are subject to market risks. This article is for educational purposes only.

Frequently Asked Questions

Can I sell shares that are hypothecated to a bank?

Technically, hypothecated shares remain in your account without restrictions. However, your loan agreement typically prohibits selling them without the lender's consent. If you sell hypothecated shares without permission, the lender can call in the loan immediately and take legal action.

Is hypothecation safer for the borrower than pledging?

From the borrower's perspective, hypothecation gives more flexibility because the shares are not locked. From the lender's perspective, pledge is safer because they have direct control through the depository system. This is why brokers use pledge and banks often use hypothecation with additional contractual safeguards.

How do I take a loan against shares using hypothecation?

Banks and NBFCs offer Loan Against Shares (LAS) products where you hypothecate your shares and receive a credit facility. The loan amount is typically 50% to 70% of the share value, depending on the quality of shares. Interest rates vary between 9% and 14% per annum. The shares remain in your demat but the lender monitors their value.

What happens if the value of hypothecated shares falls significantly?

The lender monitors the value of hypothecated shares daily. If the share value falls below a minimum threshold, called the maintenance margin, the lender issues a margin call asking you to either deposit more shares or repay part of the loan. If you do not meet the margin call, the lender can sell the shares to recover the loan.

Can promoters hypothecate their shares?

Yes, and this is closely watched by investors. When company promoters hypothecate or pledge their shares for personal or business loans, it is a potential red flag because a fall in share price can trigger forced selling by the lender. SEBI requires listed companies to disclose promoter pledge and encumbrance details quarterly.

Investments in securities market are subject to market risks. This article is for educational purposes only and does not constitute investment advice.