I admit it—I’m kind of an environmentalist. I live in the country. I used to drive a hybrid. I recycle. But I’ve never been a huge fan of solar energy stocks.
Back in my days as a fund manager, I remember a lot of the dot-com-era pitches, and they often revolved around government subsidies and technology that wasn’t quite there yet. So imagine my surprise when one of our analysts pointed out this little statistic from the Guggenheim Solar ETF (TAN) fund report on our ETF Analytics platform:
Dividend yield:5.64 percent.
Surely the data must be bad, right? Nope. TAN has paid out enormous distributions to its shareholders for the past two years straight, despite the fact that the whole portfolio’s average price-to-earnings ratio is -3. That’s a minus sign. None of these companies really makes any money; thus, I was baffled as to how they could be paying out such enormous dividends.
The short answer is that they’re not. TAN’s juicy yield isn’t the function of a dividend-investment strategy, but an aggressive securities-lending program.
“Securities lending” is the fancy term we use when a portfolio manager loans shares of the stocks in a portfolio to short-sellers. Why would they do that? Money, of course.
The short-sellers—in this case, those who hate solar stocks—borrow securities from TAN. In return, they give TAN some collateral, which TAN earns some very small yield on. In addition, if the stock being borrowed is in hot demand, there may be a fee above and beyond the yield from the collateral.
In the case of TAN, that fee has added up to a whole lot of money.
In the year ending Aug. 31, 2012—the last full year we have records for from the issuer—TAN had $63 million in assets. Its net loss from the decline in the value of all those solar stocks had been an ugly $16 million.
You can’t fault Guggenheim for that. It’s not actively managing the fund. It’s an index. During the course of that year, those beleaguered solar stocks distributed $470,183 in dividends—a trailing 12-month yield of about 74 basis points.
During that same single 12-month window, the fund booked $4.7 million in securities-lending revenue, or 7.5 percent. That’s $4.7 million to offset that $16 million decline in the stocks themselves.
It’s worth pointing out that these distributions are pure income—there’s no tax advantage like the one investors might get through qualified dividends from underlying stocks.
They pull off this seeming magic trick because many investors have hated solar for a long time. TAN, which tracks the MAC Global Solar Energy Index, is actually witness to this.
It’s down more than 40 percent since the fund launched in April 2008. Of course, for every bear, there’s a bull, and the fund has managed to accumulate a respectable $110 million in assets.
So if you hate solar, and you want to short, say, First Solar Corp., what do you do? You go out and try to find someone who will loan it to you. And it turns out, TAN has a lot of it sitting around, not doing much.
And for the past several years, quite a few of TAN’s holdings have been favorites of shorts-sellers.
This chart looks at the reported short interest in each of TAN’s U.S. holdings since the beginning of 2011.
The metric here is “days to cover,” which is a common way of answering the question “how short” something is. A stock that has 10 days to cover means that if all the short-sellers got out at once, it would take 10 days of normal trading volume to absorb all those orders.
A typical S'P 500 stock generally has something like a day or two to cover outstanding short interest. At the peak of negativity, some of TAN’s holdings, like STR Holdings (STRI), had months of shares short.
So what happens when you show up and want to borrow some more of STRI in the fall of 2012? You pay through the nose. And in the case of TAN, all of that money goes right into the wallets of TAN’s shareholders.
The moral of this story isn’t “buy solar.” Nor is it “securities lending is always awesome.”
But it’s definitely the case that a well-run securities-lending program that returns most of the revenue to shareholders can have an enormous effect on your returns.
Particularly when the skies get cloudy.
At the time this article was written, the author held no positions in the security mentioned. Contact Dave Nadig at firstname.lastname@example.org .
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