Vanguard is to allow its largest European exchange-traded funds to begin lending out securities in order to generate more revenue for investors.
The US firm has added a provision to the product details of 12 of its European ETFs giving the funds the capacity to lend out securities in exchange for collateral.
Funds affected include the $14.3bn (£10.9bn) S&P 500 and the £2.2bn FTSE 100 ETFs. The company had previously stated that it would not engage in securities lending until funds had reached a sufficiently large size.
The ETF would essentially become a counterparty to an investor wishing to short stocks, lending its securities in return for collateral and fees. This would increase revenue for shareholders and potentially enhance returns for rising stocks.
Although the move aims to generate more income on the low-cost funds, it does increase risk given the possibility that those who borrow the securities could default on repayments.
A spokesperson from Vanguard said: “Vanguard believes that a highly risk-controlled and conservative programme can add incremental revenue, lower costs and enhance returns for investors.
“Vanguard returns 100 per cent of securities lending revenues, net of programme costs to the funds, so there is a clear alignment of risk and reward in the best interests of Vanguard’s clients.”
A letter to shareholders stated that the procedure will be used “for efficient portfolio management purposes”, primarily as a way to generate further income for clients.
The letter went on to say that the changes were made because the firm “believes that a risk-mitigated, tightly-controlled and conservative securities lending programme can add incremental value without undertaking undue risk”.
It noted the company “is now of a sufficient size and maturity whereby it can facilitate the lending of securities in a scalable, efficient and profitable manner”.
Other ETFs impacted by the change include those that follow the FTSE 250, All-World, Emerging Markets, Developed Europe, Developed Asia Pacific ex-Japan, Japan, All-World High Dividend Yield, Developed World, North America, and Developed Europe ex-UK indicies.
Vanguard said the ETFs would operate under the same lending parameters governing the firm’s European Ucits funds, which already engage in securities lending. These include high-quality, liquid sovereign bonds from France, Germany, the Netherlands, UK and US.
City Asset Management’s research director James Calder said he could understand the move given Vanguard’s focus on lowering costs for clients.
However, he added: “I’ve always been struck with the dichotomy of a long-only [investor], one that wants to make money from a rising market, would lend its stock out to investors who benefit from a falling stock price.”
