Norway’s sovereign wealth fund manager has described in a new report how its securities lending activities have evolved over the years to squeeze the best returns possible from providing a service that has become cheaper every year.
In a new historical report on its experience of 20 years investing in equities, Norges Bank Investment Management (NBIM), which manages the NOK11trn (€1trn) Government Pension Fund Global (GPFG), said it had generated NOK34bn for the GPFG from securities lending, or 8.4 basis points a year since 1999.
But since 2008, it said, the annual contribution had been declining, as the demand for equity borrowing from hedge funds had fallen and the securities lending industry became more competitive.
In a video interview accompanying the publication, former chief executive officer of NBIM Yngve Slyngstad suggested to Matt Brunette, global head of financing, that securities lending work had involved continuous changes in strategy in order to be one step ahead of the market – because margins seemed to go down all the time.
Brunette said: “Yes that’s a problem, but I would say this base layer – the old traditional make-your-shares-available-then-do-nothing – that’s gone down, but there are plenty of things that keep popping up, as so as a fund that invests in 70-odd markets globally, our biggest emphasis would be: let’s make a yield on all our assets, let’s develop those emerging markets.”
He said NBIM made higher returns on securities lending transactions known as “specials”.
“At any point in time there can be quite a lot of interest in certain market segments, but the supply of those securities is constrained,” he said, citing emerging markets and small caps as two examples.
As other examples of differentiated products, or markets where higher fees could be found, NBIM cited in its report term funding trades or synthetic lending on similar assets.
In the latest innovation, this year NBIM did its first equity lending peer-to-peer transaction with a hedge fund counterparty that could manage its own lending operations and borrow directly from NBIM’s agent lender.
“This allowed us to lend out unutilized parts of our portfolio, for a higher fee than our minimum fees,” said the management organisation, which is a division of Norway’s central bank.
NBIM’s equity lending revenue has fallen to below six basis points in 2019 from around 14 basis points in 2008, according to the report.
Measured against the average industry return calculated by the data vendor Markit, NBIM said it had outperformed the market returns by two to three basis points, though this lead had narrowed.
“The decline in this gap from three basis points in 2010 to two basis points today is indicative of both a partial erosion of our competitive advantages and our active decision to avoid transactions that do not provide an adequate risk-return trade-off,” it said.
NBIM said that while the vast majority of equities lending was outsourced to its agent lender Citibank since 2014, it had always been very involved in the process.
The central bank arm also said in the report that participation in the equity lending market meant it had to balance the returns generated with the need to act as a responsible investor by exercising its voting rights.
“Since a beneficial owner cannot vote for shares that are on loan, we must recall them if we want to vote at a shareholder meeting,” it said, adding that it also needed to maintain its relationship and dialogue with the companies in which it invested.
“We believe that lending and voting can co-exist in this environment if we are transparent with management that we will lend our shares, but that we will recall and vote them when we deem it necessary and impactful to do so,” NBIM said in the report.