> You can lend out the fund’s stock to short sellers, and share some of the fees paid by the short sellers with the fund, while keeping some for yourself.
Wait a second. Lending is not a risk-free activity. These index funds are supposed to be low risk. What happens in a short squeeze situation?
Why do you say that index funds are supposed to be low risk? That's not really true; they in fact desire to have precisely the risk profile of whatever benchmark they target and seek minimal tracking error relative to that.
Obviously I am talking about the risk inherent to the fund separate from the risk of what it's tracking, which is arbitrary. The inherent risk of the fund is absolutely supposed to be low.
Thanks for the link, but I think even with 102% collateral marked to market daily, short sellers could still default and cause the fund to lose gains. It would be a black swan event, but the losses would be much larger than the 3 basis points they claim to gain from lending. Missing a small number of up days in the market has a huge negative effect on returns.
I see what you mean. The only thing I would add is that they do credit analysis on who they are lending to, and it's basically just institutional investors not fly-by-night short-sellers.
The only time you lose money is if you want to sell and can't because you've loaned out your shares. But with a large index fund, that's extremely unlikely: you can easily lend out a small portion of your shares all the time (say 5%) with virtually no chance that too many customers will want to cash out all at the same time.
Lenders only make money on a short squeeze if the shorts can cover. If they default, the lender loses shares. And if the lender is an index fund that is required to maintain a certain balance of shares then they will have to replace those lost shares, becoming a victim of the short squeeze themselves.
Wait a second. Lending is not a risk-free activity. These index funds are supposed to be low risk. What happens in a short squeeze situation?