In an October 22, 2011 article, the Wall Street Journal reported on an academic study that said that “when a fund uses an agent that is part of the same company that runs the fund, the returns to investors from securities lending are 70% lower than at funds that use other lending agents.”
While this one statement is hard to argue with based on data alone, it is also an example of misinformation. Both the article and the academic study miss the point of best execution in securities lending. While this was perhaps unintentional and certainly returns are part of the question, the other major part of determining who got the best returns vis-a-vis the risk entailed is measuring up the policies and procedures of the lender. Funds lending through an affiliate may also use services that a third party would not necessarily provide, and that may cause an adjustment in the fee split.
By repeating the results of the academic study without qualification, the WSJ has perpetuated the myth that the only way to determine whether returns are good or not in securities lending is to presume a standardized lending environment, when in fact such a thing does not exist. For those who want more, Finadium put out a recent analysis of best execution in securities lending that clearly presents why academic and other studies that look at returns alone fail to include very significant information regarding a fund’s activities.
It is also unclear at face value if the academic in question, Dr. John Adams of the University of Texas Arlington, understood the error that he himself was walking into. Previous published works by Dr. Adams include whether mutual fund fees are excessive. While there is a natural inclination to focus only on the fee side of the equation in securities lending, funds must be characterized by their own similar attributes, policies and procedures and cannot be compared en masse.
We would encourage all parties to think through this question of fair fees a bit more closely before publicizing conclusions that are misleading.