Policy Issue ‑ Employee Shareholder Stock Lending
Employee Share Lending
July 2022
drafted by Professor Michael Mainelli
The first formal equity lending transactions took place in the City of London in the 1960s. Many fund managers, active or passive, engage in securities lending to help boost a fund’s performance or offset its costs. Securities lending is typically done by institutional investors with long investment horizons, such as pension funds, investment funds, exchange traded funds, and insurance companies. Borrowers include broker-dealers and hedge funds. They usually borrow securities to short the stock, avoid settlement failure, or profit from arbitrage opportunities. Lending agents take a cut of the lending revenue in exchange for matching lenders and borrowers.
This note is not to discuss the various pros and cons of securities lending, but as well as generating additional income for investors pros include greater liquidity and efficiency for the market by promoting price discovery and facilitating market making. One year prior to its collapse construction company Carillion was the FTSE 250’s most shorted stock, which should have alerted investors. Cons include borrower default risk and cash collateral reinvestment risk.
Stock lending has grown so large that it is behind the ability of large mutual funds and exchange traded funds to offer share services at no or little cost.
The borrower’s belief is that the value of the share is likely to go down, and their actions lend weight to the belief of others. However, one unnoticed ‘con’ appears to be that stock lending typically reduces the value of a share. A second unnoticed ‘con’ is that by lending stock the lender loses the right to vote.
Thus there is a paradox here in that the action taken to make money to reduce fund administration costs acts against the investment intentions of the stock owner, including employees, and loses them their voting rights.
Is there something that the Esop Centre could or should do?
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