Chapter 15
TYPES OF SECURITIES
INTRODUCTION
• A security is a document that is an evidence of
specific claims on a stream of income and/or
the particular assets.
• Debt securities include bonds and mortgages.
• Ownership securities include common stock
certificates and the title to marketable assets.
• In addition, preferred stock is a hybrid
security which entitles its owner to a mixture
of both ownership and creditor ship privileges.
Characteristics of Good Security
A good security should have the following
characteristics:
1. Free from encumbrances
2. Easy marketability
3. Easy storability
4. Durability
5. Free from price fluctuations
6. Easy ascertainment of value
7. Earning of income
8. Free from heavy cost of handling
9. Free from disabilities
General Principles of Secured Advances
❑ Validity of the Title of the Borrower: First of all, the
banker must ascertain whether the borrower has a
good title to the security.
❑ Nature of the Security: The banker should pay
attention to the nature of the security. He must see
whether the security possess all the qualities of a
good security. A good security must be durable,
storable and easily realizable in the market.
❑ Free from Defects: In the case of secured advances, a
banker relies more on the security rather than the
credit worthiness of the borrower. Hence, the banker
should see that these securities are completely free
from defects.
General Principles of Secured Advances
❑ Documentation: Documentation is an important step
in bank lending. The bank should see that proper
documents, such as mortgage deed or pledge or
hypothecation arrangement containing all the terms
and conditions of the charge are executed.
❑ Adequate Margin: “Margin” means the excess of the
market value of the security over the advance granted
against it.
A banker must keep adequate margin while granting
loans and advances because of the following reasons.
General Principles of Secured Advances
(a) The market value of the security is subject to
fluctuations. In case of a fall in the value of the
security, the interests of the bank are safe if
there is an adequate margin.
(b) The loan amount is going on increasing
year after year, since the interest is added to it.
But the value of security may remain the same
or if may even come down. If the value of
security falls, a part of the security becomes
unsecured automatically. Hence, adequate
margin is needed.
Types of Securities on which Loans or Advances can be Granted
Advances Against Goods
• Banks lend a large part of their funds on the security
of goods.
• Advances against goods are mainly granted for
working capital requirements of business and
industries.
• The goods may be agricultural products like paddy,
rice, wheat, cotton, oil-seeds and raw-jute.
• They may be manufactured goods like cloth and
sugar.
• They include minerals also.
• Lord Chorley remarks that “advances against security
of goods are a usual and proper form of banking
business.”
Continued…………….
Advantages:
❑Tangible Security
❑Easy Realizability
❑Easy Ascertainment of Prices
❑No Price Fluctuations
❑Short-period Advances
❑Easy to Create a Charge
❑Promotes Commerce
Continued…………….
Drawbacks or Demerits:
❑Risk of Deterioration
❑Risk of Fraud
❑Risk of Price Fluctuations
❑Risk of Storage and Verification
❑Risk of Prior Charge
❑Heavy Transport Cost
❑Valuation Difficult
Precautions to be Taken by the Bankers
❑ Character of the Borrower
❑ Experience in the Business
❑ Title of the Borrower
❑ Purpose of the Loan
❑ Proper Valuation of Goods
❑ Nature of Goods
❑ Proper Storage
❑ Care in a Rented Godown
❑ Take Possession of Goods
❑ Godown Keys
Continued…………….
❑ Adequate Insurance
❑ Periodical Inspection
❑ Strict Supervision Over the Release of Goods
❑ Short-period Advances
❑ Bank’s Name Board
❑ Directives of Bangladesh Bank
Advances Against Documents of Title to Goods
• Documents, which in the ordinary course of
trade, are regarded as proof of the possession
or
control of the goods are called “documents of
title to goods.”
• They authorizes the possessor or holder to
transfer or receive the goods represented by
them.
• Thus, the documents of title actually represent
goods.
• They can be transferred by mere delivery or by
endorsement and delivery.
Continued…………….
The following are the important documents of
title to goods:
1. Bill of lading
2. Dock warrant
3. Warehouse keeper’s certificate
4. Delivery order
5. Railway receipt and lorry receipt
Continued…………….
Merits:
(a) These advances are better than
guarantees. They have the backing of goods.
(b) The goods have ready and wide market.
(c) Determination of valuation is easy.
(d) Advances are mostly for shorter periods.
(e) The goods have stable prices.
(f) They can be easily disposed off in case of
default of payment by the borrower.
(g) These are quasi-negotiable instruments.
They can be transferred by mere endorsement
and delivery.
Continued…………….
Risks or Demerits:
(a) The documents of title to goods give greater scope
to commit frauds.
(b) The documents of title to goods may be created by
sending defective and rejected goods also.
(c) There is scope for forgery of documents of the title
to goods.
(d) There is scope to alter the contents in the documents
of title to goods.
(e) The transport companies do not give guarantee
about the contents of the bags or packages etc. There
may be pilferages in transit.
Continued…………….
(f)The unpaid seller has got the right to stop the goods
in transit the borrower becomes insolvent before the
goods are delivered. In such a case, the banker runs
the risk of losing the goods.
(g) There is scope for deterioration or damage of the
goods during transit or storage.
(h) In the case of some commodities, there is scope for
fluctuation of prices especially in regard to luxury
goods.
(i) Sometimes, it becomes difficult to determine the
value of certain types of goods.
(J) The railway receipts do not give correct discription
of the goods dispatched.
Advances Against Stock Exchange Securities
• Shares and debentures which are regularly
purchased and sold in the stock exchange may
be accepted as security by the bank.
• A stock exchange is an organized market
where securities are purchased and sold.
Advances Against Real Estate
• By the term ‘real estate’ is meant all types of
immovable properties including tangible assets
like land, building etc.
• Generally, commercial banks favor granting of
loans and advances against the security of real
estates due to a number of risks and demerits.
Causes of Refusing Real Estate as Security
1. Customer’s title.
2. Heavy expenses.
3. Valuation.
4. Legal formalities.
5. Loss of liquidity.
6. Delay in realization.
7. Administration of properties.
8. Maintenance.
Advances Against Life Insurance Policies
• A life insurance policy is accepted by bankers
as a main security or as a supplementary
security.
• Whereas the banker accepts life insurance
policy as a main security, he advances
between 85 to 90 per cent of its surrender
value.
• But as a supplementary form, a life insurance
policy is more useful because it is advisable to
cover the signature by the life of the
guarantor.
Advance Against Fixed Deposits Receipts
• The term ‘Fixed Deposit’ means the money or deposit which is
repayable on the expiry of a fixed period of time.
• The Fixed Deposit Account cannot be withdrawn before the
expiry date, as mentioned in the Fixed Deposit Receipt.
• But sometimes, depositor may require advance-money before
the due date of maturity. In such case, ordinarily banks extend
advancing facility to their customers, but it should be noted
here that banks are not bound to extend such facility.
• Whereas the banker accepts FDR, he advances upto80 per cent
of its value.
Advance Against Book Debts
• Sometimes banks may grant loans and advances to
the customers against the security of book-debts.
• Whereas the bank is fully satisfied with the solvency
of the customers, such types of advances may be
granted.
• In terms of Economics, the book-debt means “the
amount which the customer of the bank has to get
from other persons.”
• Book-debts are also known as ‘actionable claim’.
