What it means
A call loan is the shortest form of commercial borrowing that still counts as a loan rather than an overdraft. It is normally secured on easily sold assets such as listed shares or government bonds, and the interest rate attached to it is often quoted as the call loan rate or broker call rate.
Because the lender can ask for the money back tomorrow, it takes almost no interest rate or credit duration risk. That absence of risk for the lender is why the borrower gets a low rate.
Call money is usually the cheapest cash a business can borrow against securities, cheaper than a term loan of the same size, because the lender is not locking anything away. The saving is real, and so is the catch.
The catch is that the loan is only available while the lender is comfortable. If markets fall, the collateral loses value or the lender needs its own cash, the loan can be called on exactly the day the borrower can least afford to repay.
Funding long-term positions with money repayable at a day's notice is the classic liquidity mismatch that has brought down more than one broker. The arithmetic is straightforward because interest accrues daily on whatever balance is outstanding.
A borrower who draws and repays several times a month pays only for the days the money is used, which makes call loans useful for smoothing short gaps in working capital. Lenders normally calculate interest on a 360 day basis, so a stated annual rate is divided by 360 and multiplied by the number of days.
Call loans sit alongside repurchase agreements and overnight facilities in the short-term funding toolkit, and the choice between them is mainly about documentation and collateral. The rule for anyone using them is to match the money to assets that can be sold as quickly as the loan can be called.
Treated that way a call loan is cheap and flexible; treated as permanent funding it is a trap.
In practice
Real-world examples.
Example
A stockbroking firm lends $5,000,000 to clients buying shares on margin and funds it with a call loan from its clearing bank. The spread between the call loan rate it pays and the margin rate it charges clients is one of the firm's main sources of income.
Example
A grain trader needs cash for eleven days between paying a farmer and being paid by a mill. It draws a call loan secured on warehouse receipts, repays it on day eleven and pays interest for only those days rather than committing to a three month facility.
Example
A finance director reviewing a group's funding mix finds that 40% of borrowing is on call. She replaces half of it with a two year facility at a higher rate, accepting the extra cost as the price of knowing the money will still be there next quarter.
Formula
Calculation
Interest on a call loan = principal x annual call loan rate x days outstanding / 360
Suppose a broker borrows $2,000,000 against a portfolio of listed shares at a call loan rate of 5.40% and keeps it outstanding for 20 days. Annual interest would be 2,000,000 x 0.0540 = $108,000, so daily interest is 108,000 / 360 = $300. Over 20 days the cost is 300 x 20 = $6,000. A 20 day term loan at 6.25% would have cost 2,000,000 x 0.0625 = $125,000 a year, or 125,000 / 360 = $347.22 a day, which is 347.22 x 20 = $6,944.40, so calling the money on demand saved roughly $944 for taking on the risk of early repayment.Case study
Seen in the real world.
Ashvale Securities is an illustrative, fictional brokerage used here to show how call funding behaves under stress. It financed $18,000,000 of client margin lending almost entirely with call loans from two banks, which saved it about $200,000 a year in interest compared with term borrowing.
During a sharp market fall, the value of the shares pledged as collateral dropped by 22% and one of the banks called $7,000,000 at a day's notice. Ashvale could only raise the cash by forcing clients to sell into the same falling market, which crystallised losses and damaged several long-standing relationships.
The fictional outcome was a change of policy rather than a failure. The firm kept call loans for day to day flexibility but capped them at half of its margin book, funding the rest with committed facilities, and the illustrative lesson was that the cheapest money is cheap because someone else holds the option.
Watch out
Common mistakes.
- Treating a call loan as permanent funding because it has been rolled over for years, when the lender can withdraw it at a day's notice.
- Comparing the call loan rate with a term loan rate and choosing on price alone, which ignores the value of certainty the term loan provides.
- Assuming the collateral protects the borrower, when falling collateral values are one of the main reasons a loan gets called in the first place.
Questions
People also ask.
Who can end a call loan, the lender or the borrower?
Either side can, which is what makes it flexible, although in practice it is the lender's right to demand repayment that matters most.
Why is the interest rate on call money usually lower?
Because the lender takes on almost no duration risk and can recall the cash quickly, so it accepts a smaller return for that flexibility.
How much call funding is too much?
There is no single limit, but the usual test is whether the assets financed could be sold fast enough to repay the loan without forcing losses.
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