Securities lending in ETFs has almost doubled since 2017, according to data from EquiLend, however, this remains behind ETF asset under management (AUM) growth over the same period.
Between the end of 2017 and midway through 2021, ETF assets shot up 93.7%, from $4.8trn to $9.2trn, according to data from Bloomberg Intelligence. At a slower pace, ETF on-loan value jumped 76.9% from $37.5m to $66.3m.
While this number is still only a fraction of all securities lending – 2.6% of total value – its share has grown from a 1.8% stake in 2017. Also, the gross value of loaned securities has risen by 20.6% over the four-year period meaning ETF securities lending growth has outpaced the market by a factor of four.
However, Athanasios Psarofagis, ETF analyst at Bloomberg Intelligence said the divisive practice has lagged ETF AUM growth because it is often left out of one of the industry’s highest-growth segments – environmental, social and governance (ESG) investments.
"In Europe, ESG is a big part of the growth and lots of issuers are hesitant to lend on an ESG fund,” Psarofagis said.
One issue often raised with securities lending is that of stewardship, with fears an investor’s ability to affect change in companies’ behaviour is reduced by their stocks being out on loan.
To allay this concern, when announcing it would commence securities lending in February, HSBC Global Asset Management said not only would security holders receive the dividends earned by their loaned-out assets, but the firm would retain all voting rights associated with the securities in question.
More risk or reward?
A key attraction for many considering securities lending is the possibility of offsetting the impact of fees. Even though issuers take sizeable commission from securities lending revenues – usually ranging from 10% to as much as 40% - investors receive a pre-agreed borrowing fee and with swaps typically lasting less than a day, ETF holders are not inhibited from trading their securities.
We can also see the impact of securities lending when looking at a run-of-the-mill exposure such as the iShares $ Treasury Bond 7-10yr UCITS ETF (IBTM), which has a total expense ratio (TER) of 0.07% and a declared securities lending return of 0.05%. In sum, the net impact on IBTM’s regular returns comes to 0.02% a year.
Securities lending also varies based on the desirability of the underlying. However, higher borrowing fees can be attached to higher-fee products. For instance, the iShares MSCI EMU Small Cap UCITS ETF (CES1) boasts lending returns of 0.26% and a TER of 0.58%, meaning its fee is effectively cut by 44.8%, versus 71.4% for IBTM.
One issue securities lenders struggle to ameliorate is the defaulting millstone. Even with the protections brought about by Dodd-Frank and the European Market Infrastructure Regulation, issuers stating their commitment to thorough credit monitoring and demanding borrowers post collateral pre-emptively with large haircuts attached, the spectre of ‘what if’ remains.
And this is valid. In the unfortunate event a borrower defaults and the value of the collateral falls, a security holder is at risk of getting back less than their product issuer loaned out.