From Gerd Kommer and Felix Großmann
This blog post was updated in December 2025.
The topic of securities lending (“WPL”) comes up with regularity in the financial media and in financial blogs in connection with the alleged structural risks of ETFs. Because the statements about securities lending in these publications are often superficial and sometimes contain outrageous errors, we examine the facts Securities lending on ETFs in this article a fact-oriented view.
We address the following questions and issues:
(1) What is securities lending? How does it work?
(2) Who practices securities lending?
(3) Why is securities lending done?
(4) The risks and benefits of securities lending
(5) The history of securities lending
(6) Why does securities lending have a bad reputation among some investors?
(7) The regulation of securities lending
(8) What is the proportion of WPL ETFs?
(9) Should you avoid ETFs that engage in securities lending?
(1) What is securities lending? How does it work?
Securities lending has been a common practice among institutional investors worldwide for decades. It is closely regulated, represents a highly standardized process and makes an often overlooked “silent contribution” to the functioning of the international securities markets.
Securities lending typically works like this: the owner of a security (e.g. an actively managed investment fund, an ETF or a sovereign wealth fund, such as the Norwegian Oil Fund) lends a security (a stock or a bond) to a borrower for a limited period of time. The borrower is another institutional investor, such as a hedge fund. The borrower pays the lender (the ETF) a lending fee at the end of the lending period, e.g. B. 0.1% of the value of the loaned item per annum (one 365th of 0.1% per day). The loan period is usually only a few days. During the loan period, the borrower provides the lender with security, e.g. B. Cash or highly liquid securities such as bonds or stocks.
In the EU, the value of the collateral for investment funds for private investors (“UCITS funds”), including ETFs, must be higher than the value of the loaned item. For example, this is 102% for safe government bonds or 108% for stocks. Excess insurance is therefore legally required. Both the value of the loaned item and the value of the collateral are automatically checked once a day. If the collateral ratio (the “loan to value”) falls below the above at the end of the day. If the minimum quota falls, the borrower must provide additional collateral at the beginning of the next day, i.e. increase the amount of the collateral or return part of the loaned item.
If the collateral is less volatile than the loaned item, which is often the case, the extent of overcollateralization increases within one day in the event of negative market trends (which are “generally” disadvantageous for the ETF investor). This should be viewed as positive by the ETF investor.
A given security's WPL fees (the WPL revenue from the perspective of an ETF practicing WPL) tend to be higher the more illiquid the loaned security, the less frequently it is traded, and the more short selling generally occurs on the security. Short-selling is the main reason for WPL on the borrower side. More on short selling below in section 3.
The lender is therefore doubly protected. Firstly, the borrower is directly liable with all of his assets for the return of the loaned item and secondly, the lender has direct access to the collateral, which is very likely to be worth the same or more than the loaned item at any time.
In addition, the so-called Securities Lending Authorization Agreement, i.e. the agreement with the institution that operationally handles securities lending, e.g. B. implements for the fund, normally, that it is also liable in the event that the lender defaults and at the same time the value of the deposited papers is not sufficient. In this case, there must be a simultaneous insolvency of the lender and the institution coupled with under-collateralization caused by market movements.
There are a number of other procedural and logistical security features required by supervisory law that we cannot go into in detail here for reasons of space, e.g. B. which types of securities are permitted as security, what the maximum proportion of securities lent may be at a given time or who is allowed to act as an account or custodian at which the securities are deposited.
If dividends or interest payments are made on the loaned security during the loan period, compensation payments of the same economic value will flow to the lender (the ETF). It is agreed on a case-by-case basis to whom any current income (interest, dividends) from the securities provided by the borrower will flow.
Any voting rights - if there is a shareholders' meeting during the loan period for a share - can normally be exercised by the person who is the owner at that moment, i.e. the holder of the share. Logically, this is not the lender, but in most cases it is not the borrower either, but another third party. The details of this are explained in Section 6 below.
(2) Who practices securities lending?
The short answer to this question is: "All", which means that basically all types of institutional investors practice WPL: actively managed investment funds, ETFs, hedge funds, government pension funds (the largest fund segment in the world), sovereign wealth funds, other types of institutional funds, banks, insurance companies - simply everyone. In other words, participants in the WPL market are the largest and most professional financial investors on this planet.
It is a curiosity that “critical discussions” about WPL almost exclusively focus on WPL in ETFs. Why WPL with other fund types that are more important in terms of investment volume, e.g. B. actively managed investment funds or pension funds, private investors and “critical journalists” do not seem to be interested, only the gods know.
(3) Why is securities lending done?
As already indicated in the answer to question 1, the owner of a security for which there is demand for borrowing can generate additional income through WPL that is in addition to the conventional market return of the security (interest, dividends, price gains). From the perspective of investors in an ETF, it is the task of the ETF provider (the fund company that offers and manages the ETF) within the framework of the law and the requirements of the fund prospectus to maximize the return for the investor and not to leave potential sources of return unused, i.e. to waste them. In a figurative sense, one could argue that just as useful, usable food and other resources are not simply thrown away in a sensibly managed private household, the WPL source of income is not “thrown away” in an “ETF household”.
Considering that private investors in ETFs (rightly) prefer to buy ETF A over an otherwise identical ETF B if the Tracking difference of A is 0.1% p.a. better than that of B, then it should come as no surprise that the provider of ETF A uses WPL, as this contributes on average around 0.1% p.a. and in some cases more to the total return of the ETF. (The tracking difference is the difference between the return of the ETF and the return of the securities index it tracks, which, unlike the ETF, does not include operating costs. The tracking difference is often given for a period of one year or as an annualized number.)
(4) The Benefits and Risks of Securities Lending
The benefit of WPL is easily explained: WPL improves the overall return of an ETF for investors compared to the alternative scenario of “foregoing WPL”. How high this return contribution is naturally depends on the individual case. As a rule, for funds it is in the range between 0.01% p.a. and 0.1% p.a. We can conclude that these WPL remunerations are “fair” from the fact that they come about in a global, liquid, well-regulated, functioning market between large professional investors and that they can adequately assess the associated risk.
Many private investors mistakenly believe that it matters who the WPL income flows to - the ETF provider or the ETF itself. Here we are dealing with an economic error in thinking, the confusion of a superficial, formalistic partial aspect with the really relevant fundamental overall context. To illustrate: The two stock ETFs X and Y track the same index and both operate WPL. With ETF X, all WPL income flows to the ETF (i.e. directly to the investor assets), but with ETF Y only 60%. The other 40% goes to the ETF provider. Is ETF X therefore preferable? Answer: No. Assuming the two ETFs are identical in every other respect, then the one with the better tracking difference or higher return should be preferred - and that could well be Y. On the other hand, the distribution rate for the WPL income is irrelevant in itself. Why? In the case of ETF Y, the ETF provider could use the said 40% of WPL revenue to reduce the management fee in return or to finance other operational benefits for the ETF. If he does, then the “WPL distribution mode” in isolation might be a misleading decision criterion. As a result, Y can be the ETF with better returns for investors, although a smaller portion of the WPL proceeds directly benefit investors.
In this context it should also be taken into account that the “ongoing costs” (the Total Expense Ratio/TER) of an ETF any cost-reducing income from WPL for regulatory purposes not may be taken into account, which further complicates the matter.
Ergo: Investors are ill-advised if they use the WPL allocation ratio as an ETF selection criterion.
Now about the risk from WPL. From the perspective of a private investor in an ETF, WPL transactions could cause damage to an ETF if the following four risks arise at the same time materialize:
(a) Within one individual On a daily basis, the market values of the loaned item and the collateral develop in such a way that the overcollateralization ratio (see point 1), the agreed loan to value of 100% or higher, is undercut.
(b) At the end of this one day, the borrower is not economically able to compensate for the LTV difference from his general economic resources (additional collateral or partial return of the loaned item). This inability is unlikely because the lender subjects the borrower to a credit check before entering into the WPL business and because WPL transactions generally have very short terms.
(c) If there is a corresponding liability agreement in the Securities Lending Authorization Agreement, the implementing institution (e.g. a major bank such as Bank of New York Mellon) is also insolvent at the same time and cannot pay compensation. Such an agreement is possible, but not always the case.
(d) The ETF provider is not voluntarily willing and able to step in in the event of damage that has arisen despite the collateral and despite access to the borrower's general assets. It can be assumed that he would do this voluntarily because the long-term reputational damage from a refusal would exceed the short-term economic benefit of the refusal. In fact, some ETF providers have made limited commitments to step in (pay) in such cases, even though they have no regulatory obligation to do so.
The fact that these arguments to explain the very low risk of WPL are not just gray theory is made clear in the answer to the next question.
(5) The history of securities lending
WPL in the modern form described here has existed for over 50 years. During this long period, the WPL process has become increasingly efficient and robust and its government regulation in the world's major capital markets has become increasingly granular, modern and stricter.
In the case of investment funds sold to private investors (so-called “UCITS funds” in the EU and “mutual funds” in North America), to our knowledge there has not been a single (!) case worldwide in these five decades in which a private investor from WPL suffered economic damage. This flawless balance sheet is offset by 50 years of benefits, i.e. additional returns from WPL for the investor community. Such an impressive track record is very rare in the financial industry in general and in financial products in particular.
It should be borne in mind that five serious “stress tests” have taken place on the global stock market in this half century. UCITS funds/ETFs, the vast majority of which operate WPL (see figures below), have passed all five tests with flying colors from a legal perspective: the oil crisis crash of 1972/73, the short-term crash in October 1987 with a daily loss of over 20% that was unique in stock market history, the dot-com crash of 2000-2002, the Great Financial Crisis 2008/2009 and the Corona crash at the beginning of 2020.
(6) Why does securities lending have a bad reputation among some investors?
The vast majority of WPL borrowers are hedge funds that need a stock for short selling purposes. A short seller speculates that the stock price will fall in the short term. In order to sell (short) a stock, you must first own it. The short seller (borrower) obtains this possession through the loan transaction. At the end of the lending period (e.g. after two weeks), the short seller buys the stock on the open market and then returns it to the lender. If the stock price is lower at that moment than it was at the start of the short sale (and at the start of the borrowing period), the short seller has made money.
Excursus: A Common Misconception About Short Selling
Many depictions of short selling on the Internet and in how-to books claim that a short seller is selling something that they do not own. That's wrong. In fact, the short seller owns the stock at the moment of sale, otherwise the buyer would not engage in the trade at all for obvious reasons. The short seller obtains civil rights before the sale through a loan transaction possession (ownership) of the share. Strictly speaking, in a standard WPL transaction, the borrower is not only the owner of the stock, but even its owner, although this is economically irrelevant. (So-called “naked short selling” is actually a sale without prior ownership, but naked short selling is prohibited in most states, would be a rare exception even without this ban, and does not affect ETFs either way because short selling is not permitted on a UCITS ETF.)
Short selling has been around for over 400 years. Not only is it an ancient phenomenon, experts also agree that short selling is a necessary part of a healthy capital market ecosystem. Short selling contributes to the information efficiency of markets and market hygiene by helping to bring overvalued, overpriced securities closer to a more realistic, sustainable value and, figuratively speaking, by “trimming” incompetent or wasteful boards of directors to their appropriate size (Palia/Sokolinski 2020). In countless cases, short sellers were the “heroes” who helped uncover and punish fraudulent activities in companies earlier or more decisively than supervisory authorities, prosecutors and courts – most recently in the Wirecard case.
The academic literature leaves little doubt about the economic benefits of short selling. Here we cite three studies as examples: Miller 1977, Federal Reserve Bank of NY 2011, Beber et al. 2018. Supervisory authorities and central banks see it the same way, e.g. B. the most important authority for securities trading in the EU, ESMA (European Securities and Markets Authority) and the Bundesbank (ESMA 2019, Theurer 2020). The benefits of short-selling specifically from a sustainability perspective have also been demonstrated (Managed Futures Association 2022).
Another open question from point 1: Who exercises voting rights if there is a shareholders' meeting during the rental period? This is the person who bought the stock from the short seller and is now the owner. If the lender (the ETF) does not want to lose its voting rights, it must forego lending the shares during this short period of time (typically one day per year) or include a corresponding “loan recall provision” in the WPL contract. Both methods are frequently used.
(7) The regulation of securities lending
In the EU, WPL, to the extent carried out by UCITS funds (including ETFs), is based on the EU's Securities Financing Transactions Regulation (SFTR). This body of law regulates the essential risk-relevant aspects of WPL. At the beginning of 2020, the SFTR further tightened the previously applicable WPL regulations. The above-mentioned ESMA and other parastatal financial market bodies have published several separate guideline papers, some binding and some with a recommendation nature, on the practical implementation of the SFTR by market participants. Similar WPL regulations exist in the USA. Overall, WPL is a comprehensive and strictly regulated type of financial market transaction.
(8) What is the proportion of WPL ETFs?
Mid-December 2025 were on the website www.extraETF.de 4,152 ETFs (different share classes counted individually) are listed, i.e. ETFs that are intended by their providers for distribution to private investors in German-speaking countries (there are currently over 10,000 ETFs worldwide).
Among these ETFs, some are excluded from the “WPL candidate universe” from the outset for objective reasons, including ETFs that track non-securities index underlyings (e.g. raw materials, precious metals, cryptocurrencies or hedge fund indices) and almost all swap ETFs (“synthetic” ETFs). In principle, WPL would be conceivable with swap ETFs, but it is almost never financially worthwhile with them. The reasons for this are not explained here for reasons of space.
If WPL is not worthwhile for an ETF, then it is rational for the ETF provider to contractually (“officially”) exclude WPL from the outset in the fund prospectus, because in doing so it particularly appeals to the minority of “WPL opponents” among all private investors without having to make an economic sacrifice. He wouldn't have practiced WPL anyway, even if it had been permitted.
Of the 1,719 physically replicating equity ETFs (the non-swap equity ETFs), 1,666 were eligible for WPL as of December 2025, according to www.extraETF.de. That's 97%. Of the 1,146 physically replicating bond ETFs, 1,130 were WPL eligible, representing a WPL ratio of around 99%.
We can therefore conclude that WPL is very likely to be carried out where it is economically attractive for the ETF.
(9) Should you avoid ETFs that engage in securities lending?
Based on the foregoing, our answer to this question should not surprise any reader: WPL is anything but a negative feature, rather the opposite. Suppose the authors of this text were faced with the decision to choose between two ETFs that are identical in all known characteristics and whose historical returns and tracking differences we do not know or are ambiguous. The only difference between the two ETFs is that one practices WPL and the other does not. Here we would choose the WPL ETF because this ETF should produce a slightly higher return in the long term. This additional return adequately compensates for the minimal additional risk from WPL.
Our own stock ETF, the “L&G Gerd Kommer Multifactor Equity ETF” (WKN WELT0A and WELT0B) also practices WPL.
Conclusion
Over 98% of all physically replicating ETFs operate WPL. It is an ETF attribute that is often unfairly criticized. Strangely enough, WPL is predominantly only criticized for ETFs, even though WPL is also permitted under supervisory law and occurs in practice for every other type of fund. In our opinion, the criticism of WPL is based primarily on gaps in knowledge and errors in thinking and the unfairly bad image of short selling. At a higher level, WPL contributes to the information efficiency of the securities markets, which primarily benefits retail investors and, most passively, ETF investors. At the direct ETF level, WPL improves the returns that reach retail investors' wallets. This additional return represents adequate compensation for the minimal additional risk associated with WPL.
literature
Beber, Aessandro et al. (2018): “Short-selling bans and bank stability”; Working Paper Series; No. 64; January 2018; Internet reference: https://www.esrb.europa.eu/pub/pdf/wp/esrb.wp64.en.pdf
ESMA (2019): “Report – Undue short-term pressure on corporations”; Internet reference: https://www.esma.europa.eu/sites/default/files/library/esma30-22-762_report_on_undue_short-term_pressure_on_corporations_from_the_financial_sector.pdf
Federal Reserve Bank of New York (2011): “Market Declines: Is Banning Short Selling the Solution?”; September 2011, Number 518; Internet reference. https://www.newyorkfed.org/research/staff_reports/sr518.html
Madigan, Peter (2020): “Stock Lending: Dispelling the Myths”; Bank of New York Mellon; Internet reference: https://www.bnymellon.com/us/en/insights/aerial-view-magazine/stock-lending-dispelling-the-myths.html
Managed Futures Association (2022): “The Use of Short Selling to Achieve ESG Goals”; Internet reference: https://www.managedfunds.org/wp-content/uploads/2022/06/ESG-Short-Selling-White-Paper_Final.pdf
Miller, Edward (1977): “Risk, Uncertainty, and Divergence of Opinion”; In: The Journal of Finance; Vol. 32, No. 4; September 1977
Palia, Darius/Sokolinski, Stanislav (2020); “Strategic Borrowing from Passive Investors: Implications for Security Lending and Price Efficiency”; Internet reference: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3335283
Theurer, Marcus (2020): “Bundesbank takes a stand against Bafin in the Wirecard case”; Frankfurter Allgemeine Zeitung, December 6, 2020; Internet reference: https://www.faz.net/aktuell/wirtschaft/bundesbank-stellen-sich-im-fall-wirecard-gegen-die-bafin-17088197.html