ETFs and Stock Lending Fees
Stock lending fees are a crucial part of the business models for both exchange-traded funds (ETFs) and mutual funds, which derive extra returns on their equity positions by “lending” shares to short sellers for a fee. Some companies, however, are more fair than others in how they distribute these earnings.
Recent Case of Stock Lending by ETFs
One of the most recent examples of stock lending took place with a variety of exchange-traded funds that tracked the financial industry. While the credit crunch was still roaring through Wall Street, ETF sponsors could lend their shares to short sellers at a huge cost to the shorter. Citigroup, for instance, carried a lending fee of as much as 120% per year. Thus, you can imagine how much money financial ETFs were making by lending stock.
State Street
State Street’s Financial Select Sector SPDR (XLF) generated $21 million in 2008 by lending out certain shares during the height of the financial crisis. The company then passed along a full $17.8 million to investors and pocketed the remainder. That year, XLF collected just $13.8 million in annual fees from owners of the ETF, practically paying investors to own the fund.
Not all ETF Sponsors Are as Fair
One thing to consider when investing in ETFs is that not all issuers are as fair as State Street when it comes to passing on the gains. BlackRock’s iShares keeps a full 50% of all share-lending proceeds. However, some do pay better. Vanguard, a firm known already for its low fees, passes on 99.5% to its investors, obviously realizing that honest money and better returns attract bigger investments from clients.
Something to Ponder
Although its unlikely the stock lending policy will outweigh other important details when making a decision on where to invest, investors should pay attention. In the case of State Street above, its XLF fund out performed its benchmark index, and an iShares competitor due solely to the stock lending policy. However slight .2% may be on a portfolio’s return, compounded over decades it amounts to more than just a rounding error.
