What is Securities Lending?
Securities lending is the backbone of short selling. It's the process through which short sellers obtain the shares they need to sell. Without securities lending, short selling would be impossible.
How Securities Lending Works
- Lender provides shares: An institutional investor (super fund, ETF, hedge fund) agrees to lend shares they own.
- Borrower provides collateral: The borrower deposits cash or securities as collateral, typically 102-105% of the share value.
- Lending fee paid: The borrower pays a fee to the lender, expressed as an annual percentage rate.
- Shares returned: Eventually, the borrower returns equivalent shares to the lender.
Understanding Borrowing Costs
General Collateral (Easy to Borrow)
Most liquid, large-cap stocks are "general collateral" with borrowing costs of 0.25-0.5% annually. These are easy to borrow because many institutions hold and lend them.
Special/Hard to Borrow
Stocks with high short demand or limited supply can have borrowing costs of 5-50%+ annually. In extreme cases, stocks may become unavailable to borrow.
Factors Affecting Borrowing Costs
- Short interest level (higher = more expensive)
- Float size (smaller = harder to borrow)
- Institutional ownership (higher = more supply)
- Corporate actions (dividends, mergers affect supply)
Who Are the Lenders?
- Superannuation funds: Major source of lendable shares
- ETF providers: Lend to offset fund costs
- Insurance companies: Generate income on long-term holdings
- Custodian banks: Facilitate lending for clients
Impact on Investors
Securities lending affects all market participants:
- Lenders earn extra income but lose voting rights temporarily
- Borrowers face ongoing costs that cut into profits
- High borrowing costs can discourage short selling
- Recall risk means lenders can demand shares back