Investors in Europe are adapting their securities lending programs in response to challenges in incorporating environmental, social and governance objectives.
While investors like to put certain securities out for loan in order to earn extra profit, they are at the same time being pushed by European regulators to take ESG factors into account across their portfolios. That means paying more attention to how their securities lending activities align with their responsible investment objectives.
By offering their stock out for other investors to borrow, asset owners can earn between 0.5 and 5 basis points of return on assets on loan per year depending on the portfolio, sources said.
But despite these benefits, as investors are being pushed by European regulators to move assets to ESG strategies, they are starting to pay more attention to how their securities lending activities align with their responsible investment objectives.
Having been mandated by regulators to implement new ESG policies for their investments over the past year or so, investors in Europe and the U.K. are now extending such policies to cover their securities lending programs. Changes include excluding certain sectors such as tobacco and fossil-fuel companies from the collateral investors will accept in return for stock out on loan, restricting the loaning of shares that investors want to vote on, and, in some cases, reducing the amount of shares to lend out.
Securities lending is one of the topics that investors are rethinking or readjusting when it comes to their sustainability efforts, said Adam Gillett, director and head of sustainable investments at Willis Towers Watson PLC in London. Asset owners are "asking fund managers about their approach and challenging their asset managers. It's not something that was done much before," Mr. Gillett said, referring to the changes that investors have been making in the recent years.
One of the key issues that investors and their managers are taking action on is refining requirements around eligible collateral, in order to align with fund objectives. If that is not done in line with ESG principles, investors risk ending up getting stocks they would otherwise exclude from their investments.
"The issue does arise when you take equities as collateral because then you might take in equities that you have restrictions on," said Roelof van der Struik, investment manager at PGGM who manages the securities lending program of the €238 billion ($290.2 billion) Pensioenfonds Zorg en Welzijn, Zeist, Netherlands, in a telephone interview.
For this reason, when in early June PFZW approved accepting equities as collateral in PGGM's securities lending program, which will start in the summer, its exclusion list was applied to its collateral requirements. The decision to accept equities was based partially on risk considerations, but also because it makes sense in terms of matching the type of collateral it receives with the securities it has put out on loan, Mr. Van der Struik said.