Leverage ETF killed portfolio
Leverage ETFs turn out these vehicles are really only good for day trading.
The DJ index that tracks the US financial sector, for example, lost more than half its value last year. So investors the ETF designed to return twice the decline in that index might have expected it to have done extremely well. But it didn’t – the double short financials fund actually had 1% loss last year. The worse cases are the FTSE/Xinhua 25 index of Chinese stocks lost nearly half its value in 2008. A double-short ETF based on this index lost 53% of its value.
These ETFs actually do a good job on a day-to-day basis. They operate by buying derivatives that return some multiple of a index’s daily moves. In a double-short fund, this means if the index rises 1%, the fund should sink 2%. And on a short-term basis, that’s what they do.
But longer-term, they trip up. Assume a index has a short but volatile round trip over three days – it goes from 100 to 90 to 110 and finally back to 100. On a day-to-day basis, that’s a 10% fall, a 23% rise and 9% fall. A double-short ETF should return twice the inverse – or a 20% rise, a 46% fall and a 18% rise over the same period. While an investor in the index itself would be back where he started, someone who put $100 in a double-short fund would have only $76 left.
Furthermore, when the market rises, a double-long ETF has to increase its leverage to maintain its target ratio. If also increases its risk of loss if the market were to fall. Likewise, a double-short ETF has to reduce its leverage when market rise- just at the point where the likelihood of a market decline increases.
The DJ index that tracks the US financial sector, for example, lost more than half its value last year. So investors the ETF designed to return twice the decline in that index might have expected it to have done extremely well. But it didn’t – the double short financials fund actually had 1% loss last year. The worse cases are the FTSE/Xinhua 25 index of Chinese stocks lost nearly half its value in 2008. A double-short ETF based on this index lost 53% of its value.
These ETFs actually do a good job on a day-to-day basis. They operate by buying derivatives that return some multiple of a index’s daily moves. In a double-short fund, this means if the index rises 1%, the fund should sink 2%. And on a short-term basis, that’s what they do.
But longer-term, they trip up. Assume a index has a short but volatile round trip over three days – it goes from 100 to 90 to 110 and finally back to 100. On a day-to-day basis, that’s a 10% fall, a 23% rise and 9% fall. A double-short ETF should return twice the inverse – or a 20% rise, a 46% fall and a 18% rise over the same period. While an investor in the index itself would be back where he started, someone who put $100 in a double-short fund would have only $76 left.
Furthermore, when the market rises, a double-long ETF has to increase its leverage to maintain its target ratio. If also increases its risk of loss if the market were to fall. Likewise, a double-short ETF has to reduce its leverage when market rise- just at the point where the likelihood of a market decline increases.
Labels: asset allocation
posted by Jiu Zhuang at
10:38 AM
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