What are the risks involved with lending out your TSLA shares?

[ggr]

Sorry to revive this thread but I recall someone mentioning that in some rare cases when a stock is in a short-squeeze situation, the lenders of the stock for shorting can end up having their shares sold (with any profits still going to them) without consent. To me that would defeat gain of any interest made from lending your shares if you end up missing out on part of a short-squeeze as a long-term investor. I've tried to look into this but didn't find anything, anybody else know if this idea has legs or maybe it was a misunderstanding? Fidelity and Scwab saying tsla is hard to borrow as of Fri.

I'm only 99% sure, but this would be a major failing of the entire system. The borrower would have to default entirely, in which case the broker would have to make the original shareholder good by returning stock, not just giving them some spot price for the stock (which in a true short squeeze could easily have gone higher). The only way I can imagine it happening is if the short and the broker simultaneously go belly up.

 

[adiggs]

I'm only 99% sure, but this would be a major failing of the entire system. The borrower would have to default entirely, in which case the broker would have to make the original shareholder good by returning stock, not just giving them some spot price for the stock (which in a true short squeeze could easily have gone higher). The only way I can imagine it happening is if the short and the broker simultaneously go belly up.

I can help out here - my account is with Fidelity, so though I'm pretty sure what I'm describing is general industry practice, all I know for sure is its the agreement between me and Fidelity

In order to short stock, the entity selling to open will deposit cash equal to the value of the shares they borrow (at that day's price) in what ends up at a 4th party bank (me, my broker that is lending my shares to the short, the short, and then a 4th party). They hold the cash that is the ultimate back stop for both me and my broker. That amount on deposit goes up and down each day with the share price.

The short's broker will also then require them to keep some incremental cash in their account (margin) that ensures the short can pay for buying back the stock if required to do so.

All of this is to ensure that the broker that borrows my shares, can return my shares. Because I don't lend my shares out to whoever - I lend my shares to my broker, Fidelity, and if they can't return what they borrowed from me on demand / when required, then it's Fidelity that is defaulting - not the entity that Fidelity lends my shares to.

As @ggr says, it'd be a major failure by the entire system.

It means I would get 102% of the closing price of the stock yesterday (the cash on deposit with the 4th entity - remember we're positing a situation where Fidelity has defaulted and is bankrupt - they really want to avoid that).


Personally, I'm satisfied with the safeguards in place that ensures I get back my stock, rather than receiving back cash. Cash is only a backstop that ensures I'm made whole without having to wait through Fidelity's bankruptcy proceedings.

 

[tander]

I'm only 99% sure, but this would be a major failing of the entire system. The borrower would have to default entirely, in which case the broker would have to make the original shareholder good by returning stock, not just giving them some spot price for the stock (which in a true short squeeze could easily have gone higher). The only way I can imagine it happening is if the short and the broker simultaneously go belly up.

I can help out here - my account is with Fidelity, so though I'm pretty sure what I'm describing is general industry practice, all I know for sure is its the agreement between me and Fidelity

In order to short stock, the entity selling to open will deposit cash equal to the value of the shares they borrow (at that day's price) in what ends up at a 4th party bank (me, my broker that is lending my shares to the short, the short, and then a 4th party). They hold the cash that is the ultimate back stop for both me and my broker. That amount on deposit goes up and down each day with the share price.

The short's broker will also then require them to keep some incremental cash in their account (margin) that ensures the short can pay for buying back the stock if required to do so.

All of this is to ensure that the broker that borrows my shares, can return my shares. Because I don't lend my shares out to whoever - I lend my shares to my broker, Fidelity, and if they can't return what they borrowed from me on demand / when required, then it's Fidelity that is defaulting - not the entity that Fidelity lends my shares to.

As @ggr says, it'd be a major failure by the entire system.

It means I would get 102% of the closing price of the stock yesterday (the cash on deposit with the 4th entity - remember we're positing a situation where Fidelity has defaulted and is bankrupt - they really want to avoid that).


Personally, I'm satisfied with the safeguards in place that ensures I get back my stock, rather than receiving back cash. Cash is only a backstop that ensures I'm made whole without having to wait through Fidelity's bankruptcy proceedings.

Thanks for opining this is such an arcane thing. I guess my concern, or the concern of the op about this, is in this “scenario” you are still going to get your shares/capital back, but you would have to use the cash collateral to buy back at whatever the current rate is. And for long term innvestors who bought in the double digits that would be kind of annoying. I guess it’s kind of a good problem to have though if you have it.

 

[adiggs]

Thanks for opining this is such an arcane thing. I guess my concern, or the concern of the op about this, is in this “scenario” you are still going to get your shares/capital back, but you would have to use the cash collateral to buy back at whatever the current rate is. And for long term innvestors who bought in the double digits that would be kind of annoying. I guess it’s kind of a good problem to have though if you have it.

Yeah - my unlikely but reasonable worst case is there's a big upward move one day in the stock, that results in a) the entity that borrowed and sold my shares being unable to satisfy their margin call and thus unable to return the shares to their broker, who is b) THEN unable to return the shares they borrowed from Fidelity, who is c) in turn unable to return my shares to me.

If Fidelity is their broker and mine, then you can save a step in their. The point is that Fidelity doesn't need to return my specific shares to satisfy my request to get back my shares (or my sales order, etc..) - they need to find any shares, including shares that Fidelity owns for their own benefit.

Only at that point that Fidelity can't make good on what I loaned them and defaults does the cash collateral come into the picture. In this case, Fidelity is in default (which i assume means they are filing for bankruptcy protection), and the cash collateral goes straight to me without going through bankruptcy proceedings. That cash collateral is 102% of yesterday's closing price, so I miss out on the big rise today AND I sold my shares at 102% of yesterday's close, thus generating a taxable event.

Not fun if it happens - I'm comfortable that the risk is higher than owning US treasury bills/bonds, and still low and unlikely to occur. I wouldn't lend if my counterparty were other individuals in the market instead of Fidelity. Then I would be directly exposed to other investors and their margin account, and their broker's margin practices etc.., and most importantly - the depth of their pockets to sustain the potential losses involved in short selling. And I trust Fidelity to manage the risk of the exposure they are taking on VERY aggressively to keep themselves safe and whole.