Author: Derek Horstmeyer (with assistant Pamy Arora “Unannounced to their investors, mutual-fund managers will often lend the shares they hold to short sellers who bet against particular stocks.By doing so, a fund manager can earn a little extra money (on the interest charged) and reduce the overall costs to operate the mutual fund—hopefully passing on the cost savings in the form of a lower expense ratio to the investor. But the flip side is that if the manager is lending out a good amount of the fund’s holdings, this means there is a lot of demand by other investors to bet against the exact holdings the fund manager has in the mutual fund.
“When all is said and done, if your fund manager is lending out a good amount of the underlying portfolio, is this a negative sign for future returns? The answer is a resounding yes: Active fund managers who lend out more than 1% of their holdings on average during the year underperform their fellow mutual-fund managers by an average of 0.62 percentage point a year across multiple asset classes …
“In the U.S. large-cap arena, we can see that if a fund manager is lending out shares, it isn’t a good sign for the
fun fund performance. Active large-cap fund managers who lent out more than 1% of their shares averaged a return of 12.93% a year over the past 10 years. Active large-cap fund managers who lent out less than 1% of the shares averaged a return of 13.29 a year over the past 10 years. This amounts to a 0.36 percentage point difference in returns a year. … When we look at mutual fund managers who have lent out more than 2% of their portfolio on average, the results look even worse for lenders …“WSJ
July 6, 2022
Interesting Article - However, “total return” doesn’t tell the whole story. Article doesn’t address impact on fund volatility or downside performance. My (uninformed) guess is that the lenders perform better on those scores, even while generating lower overall returns.