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Leveraged ETFs - Why Do We Have Them?

Tyler Durden's picture




 

Via Peter Tchir of TF Market Advisors,

According to Barron's as much as 91% of “triple” ETF’s might be owned by individual investors.  That figure seems shocking, and as the article admits, could be wrong, but it is scary.  The activity in TVIX the past few weeks does indicate a strong retail presence – I would like to think professionals didn’t bid something up to an 80% premium to NAV, knowing that the share creation process could be re-instated, virtually assuring that the premium would collapse to 0.

TVIX had its own special issues, in that it was tied to futures contracts and had to deal with futures “rolls”, but all leveraged ETF’s have some problems.  Ignoring the costs, which are higher than other investments (leverage has a cost as does the more frequent rebalancing), the biggest problem is that the returns are “path dependent”.  If investors hold the leveraged ETF for extended periods (and it seems that this is more common than I previously thought) their returns may not be what they expect.  The total return of a leveraged ETF may differ significantly from what a typical investor might expect based on the movement of the underlying asset.

Questions about why an investor is sophisticated enough to make a leveraged bet, doesn’t have a futures account, or at least a margin account where they can do this on their own are for another time.  This will just take a quick look at how leveraged ETF’s perform over time relative to an index, and that the results may be surprising.  We look at moves in the index, the 2x ETF, the -2x ETF, and what happens if you invested equally in the double long and double short.

No Change in Index with Minimal volatility

For a simple base case, the underlying index barely moves.  It has minimal volatility and ends up unchanged.  Both the leveraged ETF’s experience losses in this case, small ones, but still both have losses.

Day

Index

2x

-2x

Avg Dbl

 

Day

Index

2x

-2x

Avg Dbl

0

100.0

100.0

100.0

100.0

 

0

100.0

100.0

100.0

100.0

1

101.0

102.0

98.0

100.0

 

1

99.0

98.0

102.0

100.0

2

100.0

100.0

99.9

100.0

 

2

100.0

100.0

99.9

100.0

3

101.0

102.0

97.9

100.0

 

3

99.0

98.0

101.9

100.0

4

100.0

100.0

99.9

99.9

 

4

100.0

100.0

99.9

99.9

5

101.0

102.0

97.9

99.9

 

5

99.0

98.0

101.9

99.9

6

100.0

99.9

99.8

99.9

 

6

100.0

99.9

99.8

99.9

7

101.0

101.9

97.8

99.9

 

7

99.0

97.9

101.8

99.9

8

100.0

99.9

99.8

99.8

 

8

100.0

99.9

99.8

99.8

9

101.0

101.9

97.8

99.8

 

9

99.0

97.9

101.8

99.8

10

100.0

99.9

99.7

99.8

 

10

100.0

99.9

99.7

99.8

Return

0.0%

-0.1%

-0.3%

-0.2%

 

Return

0.0%

-0.1%

-0.3%

-0.2%

 

So the drag on the leveraged ETF’s is minimal, but this is just the theoretical return in a “frictionless” environment.  The reality is that there is a cost to the leverage and some costs as the leveraged ETF’s need to rebalance each and every day to prepare for the next days “double the daily return” trading.  I expect the underperformance would be worse if that was accounted for.

No Change in Index with Extreme Volatility

Day

Index

2x

-2x

Avg Dbl

 

Day

Index

2x

-2x

Avg Dbl

0

100.0

100.0

100.0

100.0

 

0

100.0

100.0

100.0

100.0

1

103.0

106.0

94.0

100.0

 

1

99.0

98.0

102.0

100.0

2

100.0

99.8

99.5

99.7

 

2

106.0

111.9

87.6

99.7

3

97.0

93.8

105.4

99.6

 

3

103.0

105.5

92.5

99.0

4

92.0

84.2

116.3

100.2

 

4

100.0

99.4

97.9

98.7

5

97.0

93.3

103.7

98.5

 

5

97.0

93.4

103.8

98.6

6

100.0

99.1

97.3

98.2

 

6

92.0

83.8

114.5

99.1

7

103.0

105.0

91.4

98.2

 

7

97.0

92.9

102.1

97.5

8

106.0

111.1

86.1

98.6

 

8

100.0

98.6

95.7

97.2

9

99.0

96.5

97.5

97.0

 

9

103.0

104.6

90.0

97.3

10

100.0

98.4

95.5

97.0

 

10

100.0

98.5

95.2

96.9

Return

0.0%

-1.6%

-4.5%

-3.0%

 

Return

0.0%

-1.5%

-4.8%

-3.1%

 

Suddenly the returns are very scary.  Yes, the time series example is extremely volatile, but it illustrates the example that both the doubles lose money under scenarios with lots of intra-period volatility that ends up going nowhere.  The leveraged short ETF does worse, because as the index decreases in value, each 1 point of move is a greater %, so that greater % return is applied to a higher price on the short ETF.  That means the reversal is more punishing than for the leveraged long.  When the index is going up in price, each point move has less of a % impact.  Strange, but yes, that is the problem with these leveraged ETF’s.  They are not buy and hold assets, as they create losses in circumstances where the “index” didn’t move.

Stock Index Grinds Relentlessly

Day

Index

2x

-2x

Avg Dbl

 

Day

Index

2x

-2x

Avg Dbl

0

100.0

100.0

100.0

100.0

 

0

100.0

100.0

100.0

100.0

1

101.0

102.0

98.0

100.0

 

1

99.0

98.0

102.0

100.0

2

102.0

104.0

96.1

100.0

 

2

98.0

96.0

104.1

100.0

3

103.0

106.1

94.2

100.1

 

3

97.0

94.1

106.2

100.1

4

104.0

108.1

92.3

100.2

 

4

96.0

92.1

108.4

100.2

5

105.0

110.2

90.6

100.4

 

5

95.0

90.2

110.6

100.4

6

106.0

112.3

88.8

100.6

 

6

94.0

88.3

113.0

100.6

7

107.0

114.4

87.2

100.8

 

7

93.0

86.4

115.4

100.9

8

108.0

116.6

85.5

101.0

 

8

92.0

84.6

117.8

101.2

9

109.0

118.7

84.0

101.3

 

9

91.0

82.7

120.4

101.6

10

110.0

120.9

82.4

101.7

 

10

90.0

80.9

123.1

102.0

Return

10.0%

20.9%

-17.6%

1.7%

 

Return

-10.0%

-19.1%

23.1%

2.0%

 

So in this example, the double index earns more than 20% even though the index return is only 10% over the period.  Investors can’t complain about that.  Somewhat more difficult to believe is that an investment
split between the double long and the double short makes money on a move like this.  More on the downside scenario than the upside scenario – because each 1 point index move is more as a % on the downside.  This scenario highlights how well the leveraged ETF’s perform when there is minimal volatility.

A Gap Move where next period continues the Move

Day

Index

2x

-2x

Avg Dbl

 

Day

Index

2x

-2x

Avg Dbl

0

100.0

100.0

100.0

100.0

 

0

100.0

100.0

100.0

100.0

1

100.0

100.0

100.0

100.0

 

1

100.0

100.0

100.0

100.0

2

100.0

100.0

100.0

100.0

 

2

100.0

100.0

100.0

100.0

3

100.0

100.0

100.0

100.0

 

3

100.0

100.0

100.0

100.0

4

100.0

100.0

100.0

100.0

 

4

100.0

100.0

100.0

100.0

5

100.0

100.0

100.0

100.0

 

5

100.0

100.0

100.0

100.0

6

100.0

100.0

100.0

100.0

 

6

100.0

100.0

100.0

100.0

7

100.0

100.0

100.0

100.0

 

7

100.0

100.0

100.0

100.0

8

100.0

100.0

100.0

100.0

 

8

100.0

100.0

100.0

100.0

9

108.0

116.0

84.0

100.0

 

9

92.0

84.0

116.0

100.0

10

110.0

120.3

80.9

100.6

 

10

90.0

80.3

121.0

100.7

Return

10.0%

20.3%

-19.1%

0.6%

 

Return

-10.0%

-19.7%

21.0%

0.7%

 

So in this scenario we see a big gap in price right near the end of the period.  The next period adds to the move.  The double ETF’s outperform in that the long would be up 20.3% on a 10% move, and the short would be
up 21% on a -10% move.  The second day’s move is what drives the divergence.  Again, an investment equally weighted in both the doubles would have a positive return.

A Gap Move with Retracement

Day

Index

2x

-2x

Avg Dbl

 

Day

Index

2x

-2x

Avg Dbl

0

100.0

100.0

100.0

100.0

 

0

100.0

100.0

100.0

100.0

1

100.0

100.0

100.0

100.0

 

1

100.0

100.0

100.0

100.0

2

100.0

100.0

100.0

100.0

 

2

100.0

100.0

100.0

100.0

3

100.0

100.0

100.0

100.0

 

3

100.0

100.0

100.0

100.0

4

100.0

100.0

100.0

100.0

 

4

100.0

100.0

100.0

100.0

5

100.0

100.0

100.0

100.0

 

5

100.0

100.0

100.0

100.0

6

100.0

100.0

100.0

100.0

 

6

100.0

100.0

100.0

100.0

7

100.0

100.0

100.0

100.0

 

7

100.0

100.0

100.0

100.0

8

100.0

100.0

100.0

100.0

 

8

100.0

100.0

100.0

100.0

9

112.0

124.0

76.0

100.0

 

9

88.0

76.0

124.0

100.0

10

110.0

119.6

78.7

99.1

 

10

90.0

79.5

118.4

98.9

Return

10.0%

19.6%

-21.3%

-0.9%

 

Return

-10.0%

-20.5%

18.4%

-1.1%

 

So in this case, the move on the second last period is very big, and then we get a small retracement.  Now both the leveraged ETF’s underperform the “expectation” of a 20% return.  Unlike the prior example, where an investment in both doubles produced a positive return, here they produce a loss.  They do not perform well when there are reversals.

Volatility around a Grind

Day

Index

2x

-2x

Avg Dbl

 

Day

Index

2x

-2x

Avg Dbl

0

100.0

100.0

100.0

100.0

 

0

100.0

100.0

100.0

100.0

1

103.0

106.0

94.0

100.0

 

1

97.0

94.0

106.0

100.0

2

102.0

103.9

95.8

99.9

 

2

98.0

95.9

103.8

99.9

3

105.0

110.1

90.2

100.1

 

3

95.0

90.1

110.2

100.1

4

104.0

108.0

91.9

99.9

 

4

96.0

92.0

107.9

99.9

5

107.0

114.2

86.6

100.4

 

5

93.0

86.2

114.6

100.4

6

106.0

112.1

88.2

100.1

 

6

94.0

88.1

112.1

100.1

7

109.0

118.4

83.2

100.8

 

7

91.0

82.4

119.3

100.9

8

108.0

116.2

84.8

100.5

 

8

92.0

84.3

116.7

100.5

9

111.0

122.7

80.0

101.4

 

9

89.0

78.8

124.3

101.5

10

110.0

120.5

81.5

101.0

 

10

90.0

80.5

121.5

101.0

Return

10.0%

20.5%

-18.5%

1.0%

 

Return

-10.0%

-19.5%

21.5%

1.0%

 

We have introduced some minimal volatility to the “grind” scenario.  The leveraged ETF’s outperform again, but not by as much as the straight grind scenario presented earlier.

High Volatility

Day

Index

2x

-2x

Avg Dbl

 

Day

Index

2x

Avg Dbl

50 in Each

0

100.0

100.0

100.0

100.0

 

0

100.0

100.0

100.0

100.0

1

102.0

104.0

96.0

100.0

 

1

98.0

96.0

104.0

100.0

2

100.0

99.9

99.8

99.8

 

2

100.0

99.9

99.8

99.8

3

97.0

93.9

105.8

99.8

 

3

103.0

105.9

93.8

99.8

4

94.0

88.1

112.3

100.2

 

4

106.0

112.1

88.3

100.2

5

100.0

99.4

98.0

98.7

 

5

100.0

99.4

98.3

98.8

6

104.0

107.3

90.1

98.7

 

6

96.0

91.4

106.2

98.8

7

102.0

103.2

93.6

98.4

 

7

98.0

95.3

101.7

98.5

8

102.0

103.2

93.6

98.4

 

8

98.0

95.3

101.7

98.5

9

106.0

111.3

86.2

98.8

 

9

94.0

87.5

110.1

98.8

10

110.0

119.7

79.7

99.7

 

10

90.0

80.0

119.4

99.7

Return

10.0%

19.7%

-20.3%

-0.3%

 

Return

-10.0%

-20.0%

19.4%

-0.3%

 

With increased volatility, neither of the leveraged ETF’s get to their “expected” 20% returns.

What does it all mean?

Professional investors know they have to “rebalance” every day.  You do not have double the return over the period, you get double the daily return, which can be very different.  But why does a professional investor need these?   They have access to futures and to margin accounts, so there is no reason for these to exist just for professional investors.  They must exist for retail investors, and I find it hard to believe that retail investors understand the range of potential returns on the leveraged ETF’s for any given holding period return of the underlying index.

I don’t see a need for these products except for small retail investors who can’t get leverage any other way, and I suspect they don’t understand how these things really work, as they are the most likely to buy and hold these things.

 

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Mon, 03/26/2012 - 09:23 | 2290583 spiral_eyes
spiral_eyes's picture

Why do we have leveraged ETFs? Because we love systemic fragility, default cascades, systemic collapses and global depressions, obviously.

Mon, 03/26/2012 - 09:26 | 2290588 clones2
clones2's picture

Great article... but the conclusion is a bit of a jump.  100% of the more than one hundred people I know that trade 3x etfs know they are trading instruments only and would never consider them to be buy and hold... Pretty sure that's the general consensus...

Mon, 03/26/2012 - 09:28 | 2290603 LawsofPhysics
LawsofPhysics's picture

Plus one for you sir.

Mon, 03/26/2012 - 09:32 | 2290610 Sockeye
Sockeye's picture

Hip hip hurray for FAZ!!

Mon, 04/02/2012 - 01:44 | 2308940 MeelionDollerBogus
MeelionDollerBogus's picture

ya, long-term if you short faz you'll probably feel OK but I'd still only do that with money I can stand to lose without a tear shed. In the shorter term I'd more likely think a fas put or fas strangle is smarter than a faz buy of shares. aim to get whatever profit comes into reach in 30 days & get the contract(s) around 70 days to expiry.

Mon, 03/26/2012 - 09:33 | 2290614 oogs66
oogs66's picture

why not buy or sell 3 times the amount of the underlying?

Sun, 04/01/2012 - 23:56 | 2308828 MeelionDollerBogus
MeelionDollerBogus's picture

because that costs you 2x to 3x the input to get the same $ gain. You'll never get the same % gain. That's the point of leverage but if you can do it without margin then 2x and 3x etf's are one way. Options are another. I don't know about IRA's but I know in Canada the TFSA is tax-free on the gains from using options & you can buy puts or calls & write calls that are 100% covered.

Mon, 03/26/2012 - 10:59 | 2290974 CPL
CPL's picture

Bingo Clones2...

 

X3's are thermo nuclear trading material and should always be handled with the same mental state as holding a pissed off poisonious snake...

 

You'll eventually get bitten and it'll hurt.

Mon, 03/26/2012 - 19:53 | 2292901 StychoKiller
StychoKiller's picture

Kids, here's some giant firecrackers to play with (as a case of dynamite is opened)...

Mon, 03/26/2012 - 11:01 | 2290983 Pamela Anderson
Pamela Anderson's picture

I LOVE LEVERAGED ETFs!!! They are one of the best inventions of humankind!!! Lol…They can do wonders for your IRA accounts if you know what you are doing.

The article is right, but it’s analyzing the performance of them over time against an index…., we already know that you should not buy them and hold them like an APPL share….

These ETFs are an amazing way of getting leverage, risking almost nothing if you know how ofcourse, on cash only accounts like IRAs….If you don’t know “the how???” It means that you should not be trading them, but please don’t trash something that you really don’t understand…..

Loaded guns are bad and “should be banned”….. or maybe not?????; you can use them for hunting and feeding your family or for protection…  you just need to know how to use them and take care of them otherwise they can be deadly….

Mon, 03/26/2012 - 09:33 | 2290615 Sudden Debt
Sudden Debt's picture

No no no, because it's money. And money has to roll.

and for the risk side... well... in the end it's just taxmoney AND THAT GROWS ON TREES!!!

 

Mon, 03/26/2012 - 09:36 | 2290623 spankthebernank
spankthebernank's picture

It is called extraction... The originators or cohorts are net short these pieces of shit and it's easy money when your meal just walks into the slaughter house...heads have to roll for the tvix bullshit

Mon, 03/26/2012 - 09:50 | 2290669 optimator
optimator's picture

That's the best description of ETFs around.

Mon, 03/26/2012 - 10:10 | 2290722 jcaz
jcaz's picture

Agreed-  been lots of "oh the dangers of leveraged ETFs" by people who either don't own them, or have a vested interest in their demise....  I've actually held some of them (BGZ in particular) beyond a "day trade", and they've worked out OK-  no complaints here.

Mon, 03/26/2012 - 09:24 | 2290584 GetZeeGold
GetZeeGold's picture

 

 

Tradition!

 

Mon, 03/26/2012 - 09:26 | 2290592 clones2
clones2's picture

The whole "market" is really just a video game anyway...  Might as well find the volatility...

Mon, 03/26/2012 - 09:26 | 2290594 rufusbird
rufusbird's picture

So brokers can sell them...commissions...

Mon, 03/26/2012 - 09:28 | 2290598 WoodMizer
WoodMizer's picture

ETrade baby, gonna cry all night.

Mon, 03/26/2012 - 09:35 | 2290599 LawsofPhysics
LawsofPhysics's picture

LOL!  Why do we have them?  Simple, paper-pushing fucknuts need jobs and this is another way to collect fees and fleece the average working man who actually adds real value to the eCONomy.  Can't wait for those MF-Global-fleeced farmers in the midwest to stop shipping food to New York. 

Mon, 03/26/2012 - 09:31 | 2290600 Stoploss
Stoploss's picture

Broken market, broken ETF's, broken employment cycle, broken promises, etc... Just add it to the list.

Oh yeah almost forgot, Jaime's got big trouble. Put that at the top.

Mon, 03/26/2012 - 09:34 | 2290601 Mercury
Mercury's picture
Leveraged ETFs - Why Do We Have Them?

 

Well, shorting the pairs has been a free lunch thus far.  Eric Falkenstein covered this a few months ago:

http://falkenblog.blogspot.com/2011/10/shorting-leveraged-etf-pairs.html

Mon, 03/26/2012 - 10:53 | 2290687 GoinFawr
Mon, 03/26/2012 - 11:14 | 2291055 Mercury
Mercury's picture

Indeed, so how are these things still around?

Mon, 03/26/2012 - 13:03 | 2291452 GoinFawr
GoinFawr's picture

-She said, "There's something about you that really reminds me of money." (She was the kind of girl who could say things that weren't that funny.) I said, "What does that mean, 'I really remind you of money'?" She said, "Who am I to blow against the wind?"

 I know what I know. I'll sing what I have said: we come and we go. It's a thing that I keep in the back of my head... I know what I know...

-Paul Simon

Mon, 03/26/2012 - 09:30 | 2290604 ekm
ekm's picture

Peter

You're right on the money. It's for retail investors that can't get the leverage of institutional ones. I am one example.

They are re-balanced daily and it's only for the ones that can handle extremely wild moves. For the record, I have thrown up a couple of times in the last 3 years.

Mon, 03/26/2012 - 09:32 | 2290608 lizzy36
lizzy36's picture

Greed is good.

These are stupid products, that basically work during period of massive intraday volitility. Other than that they are a quick way to massive outperformance on the "L" line of ones P&L.

All of that said, if retail investors still want to invest in products that they don't understand, where the probability is that they will lose all their money, like a lottery ticket, well then they should go for it.

Accountibility begins at home. Products would die a natural death if there was NO demand for them. 

Mon, 03/26/2012 - 09:32 | 2290611 RoadKill
RoadKill's picture

Let me ask you a better question - what gives you and Jim Cramer the right to suggest we should OUTLAW them?  The government doesn't get to tell me what I can and can't invest in.  The government has to prove an immediate and significant danger to innocent bystanders before it can regulate something.  You may think levered ETFs are like going on a bender - not very good for the person involved.  But what god gives you the right to tell people they can't do it?

Mon, 03/26/2012 - 09:37 | 2290624 oogs66
oogs66's picture

umm, i think the SEC has lots of rules about what you can or can't invest in.  can you invest in facebook pre-ipo without a certain net worth? 

Mon, 03/26/2012 - 10:02 | 2290704 RoadKill
RoadKill's picture

Odd for ZH to argue for MORE government regulation and control.

Is it buyer beware - yes. But are you saying the government should protecy the little sheeple from themselves.

And actually I did participate in the LinkedIn pre-IPO. We got in at a $500mm valuation. I guess I should be the one arguing for more government restrictions to keep you "little" people out of my returns. :)

Mon, 03/26/2012 - 11:13 | 2291047 gmrpeabody
gmrpeabody's picture

Not really...

Get rid of bad shit... Dodd-Frank bill (1700 pages).

Bring back good shit... Glass-Steagal bill (17 pages).

 

Mon, 03/26/2012 - 10:39 | 2290848 BobPaulson
BobPaulson's picture

Let's say there were two markets. One where you bought shares and had to hold them some minimum amount of time and it was forbidden to buy and sell side bets on the fluctuations or trade shares you didn't have in hand. And lets say the other market was like the one we have today.

Tell me which one would attract most investors looking to share (remember where that word came from?) in the industrial activity in the company in which they took partial ownership? Which one would result in share values truly reflective of the current and potential wealth of the corporations they represent?

I mean, the argument in the financial industry right now is that HFT, derivatives and short selling all lubricate the market and result in better and more rapid reflection of the company activity in the share price. I actually don't believe this. The buggy whip speech simply doesn't cut it anymore.

(nerd comment, ignore if you want:) If you could somehow compare a Fourier transform of the price time series with some metric of the real market activity, the spectrum would look nothing like most physical processes that reflect smoothly differentiable functions that all have roll off at the higher wave numbers. In fact, I bet you would see the opposite!

Right now the only thing I'm touching as an investor are PM's, rental properties that pay their costs, and small private companies that I either started or for whom I know the owners. I wish their were more options (not stock options, I mean opportunities) to invest in the broader market without feeling it was a huge con.

Mon, 03/26/2012 - 09:33 | 2290616 GMadScientist
GMadScientist's picture

3X Momo #Win!

Mon, 03/26/2012 - 09:35 | 2290621 Nnthnt1
Nnthnt1's picture

Zerohedge, to be precise: (for the sake of illustration: if the path travelled by the underlying is a random walk, the expected gross return of a leveraged ETF is

e^((x-x²)*annualised volatility*(time in years)/2).

 

Cheng & Madhavan, 2009

Mon, 03/26/2012 - 09:37 | 2290625 Nnthnt1
Nnthnt1's picture

With x being the daily multiple, for an inverse double leveraged e.g. this is -2

 

With an annualised volatility of 18.5% for an inverse double leveraged ETF e.g., this is an expected annualised loss of 42%!

Mon, 03/26/2012 - 09:55 | 2290683 Nnthnt1
Nnthnt1's picture

I conducted research on the economics of being buy-and-hold  TBT investor (Proshares ultrashort 20+ Year Treasury),

 

http://volatilitysmirk.blogspot.com/

Mon, 03/26/2012 - 09:37 | 2290629 ekm
ekm's picture

Give us a link please.

Mon, 03/26/2012 - 09:35 | 2290622 AL_SWEARENGEN
AL_SWEARENGEN's picture

Leverage to wall street scum is the herion shot an addict requires to maintain his sanity.  Take away leveraged high risk with little consequences for anyone involved when losses occur, and you have the moral climate that prevails Washington and Wall Street alike. 

 

Did anyone catch this speech by James Grant?  http://www.youtube.com/watch?feature=player_embedded&v=pRipVd5wxhI

He makes a great point.  That before 1935, if a bank went under the shareholders of that bank would be responsible for putting up ALL debts due to depositers and the banks creditors.  ALL assets of the shareholders could be taken to repay the debts.  Contrast that with today!  Great watch if you can stand Grant's sometimes dry - yet intriguing lectures.

Mon, 03/26/2012 - 09:37 | 2290630 Capitalist10
Capitalist10's picture

One reason for leveraged and inverse ETFs is for use in IRA-type accounts that don't otherwise have access to margin.

Mon, 03/26/2012 - 10:43 | 2290872 HarryM
HarryM's picture

True - are there any other ways to short the market from an IRA?

Mon, 03/26/2012 - 09:38 | 2290631 razorthin
razorthin's picture

Nooo nooo nooo.  Don't fukk with these.  I may not be in the majority, I depend on these for trading returns to keep step with the Bernanke monetary bubble.  With a consistently applied strategy, these can be one of few bastions of freedom the little people have left.

Mon, 03/26/2012 - 09:52 | 2290675 ekm
ekm's picture

Concur

Mon, 03/26/2012 - 09:41 | 2290640 rsnoble
rsnoble's picture

The only people that make money consistently with these are the top rated t/a traders that use them as a short-term trading vehicle ONLY.  They are not for buy and hold and are designed to go to zero which is why they always have reverse splits. 

The ones that think they're worthless don't really understand them. And of course this info isn't really out there as this funds are only interested in making $. 

I know traders that are worth millions, seldom will they be in one of these for more than a week or two top. 

Mon, 03/26/2012 - 09:44 | 2290649 razorthin
razorthin's picture

Xactly.  And you don't have to be a top rated t/a trader to reap the benefits.  But again, it's understanding their purpose, that they have massive decay over time, and that you must apply a consistent strategy.

Mon, 03/26/2012 - 09:52 | 2290677 ekm
ekm's picture

Right on

Mon, 03/26/2012 - 09:56 | 2290689 oogs66
oogs66's picture

why not trade futures or trade the benmark on margin?

Mon, 03/26/2012 - 10:26 | 2290760 ekm
ekm's picture

We have other jobs during the day. We don't work in finance.

Mon, 03/26/2012 - 10:50 | 2290907 razorthin
razorthin's picture

You could, but I like the 3X built in margin I get with Direxion, as opposed to general 2X margin limit I would have on straight shares.

Mon, 03/26/2012 - 09:55 | 2290672 unununium
unununium's picture

One can look at the expected loss as simply the price for leverage with a loss limit at 0.

It's no different when buying options (time decay).  Borrowing (margin interest) is cheaper, but you don't have a loss limit at 0.

 

Mon, 03/26/2012 - 09:54 | 2290684 Chippewa Partners
Chippewa Partners's picture

Customers with yachts don't buy these.  The public loves guaranteed losses.

Mon, 03/26/2012 - 09:58 | 2290691 Quinvarius
Quinvarius's picture

Leveraged inverse ETFs are a fools game.  This guy points out the negative effect of having the derivative price and the asset price go in different directions.  Any reversal is far worse than the ride up on the leveraged inverse.  They are totally different than the leveraged long ETFs.

Sun, 04/01/2012 - 23:49 | 2308821 MeelionDollerBogus
MeelionDollerBogus's picture

if you use log-scale on x-axis and y-axis & plot the inverse etf vs the underlying asset/etf and get a line ... it's safe enough. Maybe not profitable enough but not breaking down in correlations.

Example 2x silver etf's long & inverse vs silver spot or slv:

http://flic.kr/p/aweaoB

 

Mon, 03/26/2012 - 10:01 | 2290703 rehypothecator
rehypothecator's picture

I hold a small position in FAZ in an IRA, and I view the small daily losses holding it as the price of having insurance if/when the financial system suddenly blows up. 

Tue, 04/03/2012 - 00:36 | 2308817 MeelionDollerBogus
MeelionDollerBogus's picture

faz can go flat while sp500 / spy is going down.

CORRECTION/edit

FAS can go flat vs SPY. However, when it doesn't then FAS puts can get you way more gains than FAZ shares. It's been fairly consistent recently over any 30 day period so if you had > 60 days time probably you'd be okay.

rsw 2x inverse hasn't been so badly behaved. for that reason it makes better holding insurance (shares) vs sp500 if you don't do enough math to handle options.

overlay chart showing this performance difference

perhaps split some into rsw, some into faz so you can avoid this situation yet still get gains of faz over rsw when it doesn't happen.

EDIT: adding overlay chart for FAS vs SPY : take note of 2009 Aug to 2010 Jan: fas flat while spy trending up. Take note of 2011 Feb to 2011 July: highly volatile but trending down hard for FAS while trending flat for SPY & RSU 2x bull-etf(sp500/spy).

Given the high volatility even in those periods I'd still say FAS strangle just barely out of the money with > 60 days time ought to return healthy paper gains.

Just don't forget to turn gains into real money like gold & silver on a regular basis.

Mon, 03/26/2012 - 10:02 | 2290705 SmoothCoolSmoke
SmoothCoolSmoke's picture

We constantly hear these instruments do not work, but:

SSO (2x SP 500)

3/1/09  = $15

Today = $58

Looks like it worked fine to me.  Wish I'd been in it for the last 3 years.

What am I missing here?

 

Mon, 03/26/2012 - 10:15 | 2290729 jcaz
jcaz's picture

Ya, funny how those who poo-poo these don't let facts get in the way of their chiding..... 

They also forget that time decay is also met with time inflation to some extent, so these things don't just deflate to zero at the end of the contract month, and if the naysaysers bothered to study your chart from 3/1/09 until now on SSO, then gee, maybe they'd realize there is more going on here.......

Mon, 03/26/2012 - 10:19 | 2290741 oogs66
oogs66's picture

nothing, but it is a very different investment than just buying the SP 500 on a leveraged basis at that time.  What is wrong with that, and it is a much more understandable investment.

Mon, 03/26/2012 - 10:52 | 2290925 SmoothCoolSmoke
SmoothCoolSmoke's picture

Well, for one, most people are restricted from buyin the SP 500 on a leveraged basis in their 401K.

Mon, 03/26/2012 - 10:10 | 2290720 tecno242
tecno242's picture

They make great shorts.

Mon, 03/26/2012 - 11:11 | 2290851 GoinFawr
Mon, 03/26/2012 - 10:31 | 2290790 SillySalesmanQu...
SillySalesmanQuestion's picture

Muppets need toys too!

Mon, 03/26/2012 - 10:34 | 2290811 JenB
JenB's picture

 

 

Mon, 03/26/2012 - 10:33 | 2290812 JenB
JenB's picture

ETF's are now a multi-trillion dollar industry that exists in large part because a retail public got so badly burned using "buy and hold" during the 08/09 downturn and wanted something that was liquid.  Imagine being an ETF fund manager and trying to compete within this multi-trillion dollar industry when you represent an organization that designs products, knowing full well they are selling to a retail public, only to have them blow up.  Sure, you can hide behind the fine print and tell people "it is their own damn fault for being so stupid as to trust us", but in the end you have to justify how it is that the "professionals" who design these things, are not accountable for designing products that represent the integrity and good name of their organizations.  How long does a company stay in business with a "too bad we ruined your life, but hey that's the way it goes" attitude?  My guess?  Not too long. 

 

 

Mon, 03/26/2012 - 11:25 | 2291105 Rastadamus
Rastadamus's picture

Sorry but I'm not smart enough. Ban em.

Mon, 03/26/2012 - 13:41 | 2291677 tradewithdave
tradewithdave's picture

After the breakdown between Barclay's and JPM when inter-day was replaced with intraday counterparty risk all the swaps surveillance in the world isn't going to keep the velocity of volatility from becoming a currency in its own right. Deny the tangible nature of gold as money by shorting volatility ala Ben Shalom and watch value creation reemerge in the abstract. Good luck shorting human consciousness because that's all that's left after the Fed gets short squeezed on volatility. It's not see you later, it's so long CME.

www.tradewithdave.com

Mon, 03/26/2012 - 14:20 | 2291834 Bartanist
Bartanist's picture

Gee, I wonder if anyone has considered that the real answer is to completely eliminate the leverage all togther. Because, it adds nothing to the real economy and creates a lot of opportunity to socialize losses.

Just get rid of them, all of them and lets start working on real capitalization again.

Mon, 03/26/2012 - 14:29 | 2291879 rew2
rew2's picture

I have a retail brokerage account and I have two ways to get leverage without 2x or 3x ETFs:

Options - with expiration dates ranging from 1 week to 3 years.  Various types of spreads can deal with the time decay problem.

Futures - single stock futures and on various indices -- simple way to get 1 delta leverage.

I can trade options in my IRA so long as I avoid naked calls.

So why should anyone need ETFs in order to multiply their losses?

 

Mon, 03/26/2012 - 18:22 | 2292635 Sneeze
Sneeze's picture

Why have levered ETFs?  Easy, so morons like me can buy them in tax sheltered or differed accounts.  Nothing better then loosing your retirement money at 3x the speed.  Things like USLV are really quite fun when you buy after mid morning take down and sell before they  rebalance the next morning.  The problem happens, when folks at JPM realize that morons like me are catching on that everyday it's the same thing.  

Thu, 03/29/2012 - 15:37 | 2301557 dhfry@yahoo.com
dhfry@yahoo.com's picture

We use them successfully on average. They exist from our perspective to turbo-charge a portfolio especially if you're late to a trend. The positions hardly last more than one or two weeks.

You're not compelled to use illiquid or 3 X shares. If you wish to short and can't find shares to protect yourself because your broker hasn't any shares to lend you they come in handy for hedging or speculating.

They can be better than futures or options. Naturally you have to know what you're doing.

I'm glad they're available.

Sun, 04/01/2012 - 23:19 | 2308781 MeelionDollerBogus
MeelionDollerBogus's picture

I've found when I plot the 2x and 3x etf's on a scatterplot vs the underlying that shows the slope of 2.0 or 3.0 or -2.0 or -3.0 that I'm looking for. It's the exponential relationship that is 2x.

e.g. log (agq_later / agq_earlier) / log (slv_later / slv_earlier) = 2.0 approximately.

doing this with silver spot vs slv often is near 1.0.

Doing this with rsw vs spy is near -2.0.

Doing this with faz vs spy is NASTY. It's supposed to be -3.0 but in fact swings badly, meaning that many times faz goes down when spy goes down (inverse of expected) and I've seen faz go flat when spy drops which of course is also bad for those using faz.

IF the underlying moves enough AND the dollars-amount moves well in the leveraged etf I'll use the etf - for options.

otherwise I'll probably use options on the underlying (spy). I found -4.28x is the multipler going from spy to vxx (meaning vxx is inversely moving and 4.28x the gains vs a loss on spy).

You can see on this overlay chart pretty much how that works. apply the math as above. Given the dollar-linear moves to watch for options the best profit on vxx options is from calls as there's more room to move up if the market slams down, IF you choose enough time to wait for it, vs puts ... except of course the rigging in the market.

Due to "market magic" aka PPT if you Strangle/straddle vxx you ought to be OK > 90 days out vs the "effective underlying" spy's volatility.

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