Fully Paid Securities Lending

A customer holds fully paid securities in a cash account and wants to earn income by lending them out, separate from any margin lending activity. What must be in place before the firm can lend these fully paid securities?

1. A.Nothing additional; the standard margin agreement and loan consent already authorize lending fully paid securities held in any account type.Wrong. The standard margin loan consent covers only margin account collateral, not fully paid securities in a cash account.
2. B.A separate, specific fully paid securities lending agreement and disclosures, since the standard margin loan consent only authorizes lending securities held as collateral in a margin account, not fully paid securities the customer owns outright in a cash account.Correct. Lending fully paid securities requires its own separate agreement, distinct from the margin loan consent.
3. C.Verbal authorization from the customer is sufficient, since fully paid securities lending does not require the same documentation standards as margin securities lending.Wrong. Verbal authorization is not sufficient; a specific written agreement and disclosures are required.
4. D.The customer must first transfer the securities into a margin account, at which point the existing loan consent automatically extends to cover them.Wrong. Transferring to a margin account does not substitute for the specific fully paid securities lending agreement required.

Why: The standard margin agreement and its loan consent are specifically about securities held as collateral in a margin account -- they do not extend to fully paid securities a customer owns outright in a cash account. Lending those fully paid securities requires its own separate agreement and disclosures specifically covering a fully paid securities lending program, since the customer is authorizing an entirely different use of assets that carry no debit balance or margin relationship attached to them.

A firm has properly borrowed fully paid securities from a customer under a fully paid securities lending arrangement, with all required consent and disclosure in place. While those specific shares are out on loan, do they continue to satisfy the firm's possession-or-control obligation for that customer?

1. A.Yes -- because the loan was properly authorized with all required consent and disclosure, the shares continue to count toward possession or control exactly as they would if they had never left the firm.Wrong. Proper authorization does not preserve possession-or-control status for the specific shares while they are out on loan.
2. B.Yes, but only for the first day the shares are out on loan, after which they cease to count toward possession or control from the second day onward.Wrong. There is no such one-day grace period; the shares cease to satisfy possession or control once out on loan.
3. C.No -- once those specific shares are out on loan to a third party, they are no longer in the firm's possession or control for that customer, regardless of how properly the loan was authorized, and the firm needs to either substitute other qualifying collateral or otherwise account for the customer's protection while the loan is outstanding.Correct. Shares out on loan no longer satisfy possession or control, requiring the firm to substitute or otherwise account for the customer's protection.
4. D.No, and lending fully paid securities is therefore never permitted under any circumstances, since it would always create an uncured possession-or-control gap.Wrong. Fully paid securities lending is permitted with proper authorization; the firm simply needs to account for the customer's protection while the loan is outstanding.

Why: Proper authorization for a securities lending arrangement makes the loan itself permissible, but it does not change the underlying fact that the specific shares out on loan are, for the time being, in someone else's hands rather than the firm's possession or control. The firm still needs to account for the customer's protection while those shares are out -- typically by ensuring other qualifying collateral or securities substitute for the loaned position -- rather than treating the loan as though it had no effect on possession-or-control status at all.