Steep Market Drops Benefit Leveraged Funds, But Investors Should Be Cautious
The recent steep drops in the stock and bond markets have proven to be advantageous for funds that make leveraged bets against Wall Street's benchmarks. Since September 19, the top-performing exchange-traded funds (ETFs) have been dominated by leveraged and leveraged inverse products. These funds aim to deliver the opposite daily movement of a group of stocks, bonds, or commodities, and sometimes even a multiple of that opposite move.
Among the best-performing funds during this period are Direxion Daily 20+ Year Treasury Bear 3x Shares (TMV), which has seen a nearly 25% increase, and ProShares UltraShort Bloomberg Crude Oil ETF (SCO), which has jumped 19%. Trading volume has also surged, with shares of ProShares' short fund for the Nasdaq 100 (SQQQ) trading 11% higher than the previous three-month average. The increase has been even more significant for the firm's UltraShort 20+ Year Treasury product (TBT), with a 66% rise above the previous average.
Mohit Bajaj, director of ETF trading solutions at WallachBeth, noted that the current interest in bond ETFs with a short tilt is due to the ongoing fluctuations in interest rates. However, investors should be aware of important considerations. Firstly, these leveraged funds tend to be more expensive compared to long-only ETFs. For instance, Direxion's TMV has a net expense ratio of 1.01%, while the long-only iShares 20+ Year Treasury Bond ETF (TLT) costs 0.15%.
Additionally, it is crucial to understand that these funds are designed for short-term trading and often have "daily" in their name to indicate this. The U.S. Securities and Exchange Commission has emphasized that leveraged and inverse ETFs "reset" daily, meaning their performance can significantly differ from the stated multiple of their underlying index or benchmark over longer periods. Even sophisticated traders tend to avoid holding these funds for extended periods, depending on market volatility.
While the universe of inverse and leveraged inverse funds has expanded to include sector-specific and single-stock products, investors should be cautious. These funds may be smaller and less liquid compared to more established funds that cover a broader range of assets. Aniket Ullal, head of ETF data and analytics at CFRA Research, warns that they can be much more volatile than those tracking the S&P 500. Furthermore, investors should note that some inverse products are exchange-traded notes, introducing potential credit risk.
It is important to remember that leveraged inverse funds can experience significant losses if the market rebounds. Therefore, investors should carefully evaluate their risk tolerance and consider the potential drawbacks before investing in these funds.
Market Volatility and Leveraged Funds: A Consideration for New Businesses
The recent market downturns have been a boon for leveraged funds, but the implications for new businesses are complex. The top-performing exchange-traded funds (ETFs) since September 19 have been leveraged and leveraged inverse products, which are designed to deliver the opposite daily movement of a group of stocks, bonds, or commodities.
Performance of Leveraged Funds
Standout performers include Direxion Daily 20+ Year Treasury Bear 3x Shares (TMV) and ProShares UltraShort Bloomberg Crude Oil ETF (SCO), which have seen increases of nearly 25% and 19% respectively. This surge in performance and trading volume indicates a growing interest in these types of funds, particularly those with a short tilt to bonds, as noted by Mohit Bajaj, director of ETF trading solutions at WallachBeth.
Important Considerations for New Businesses
New businesses must be aware of several important factors when considering these funds. Firstly, leveraged funds tend to be more expensive than long-only ETFs. For instance, Direxion's TMV has a net expense ratio of 1.01%, compared to the long-only iShares 20+ Year Treasury Bond ETF (TLT) which costs 0.15%.
Designed for Short-Term Trading
Furthermore, these funds are designed for short-term trading, often indicated by the term "daily" in their name. The U.S. Securities and Exchange Commission has emphasized that leveraged and inverse ETFs "reset" daily, meaning their performance can significantly differ from the stated multiple of their underlying index or benchmark over longer periods.
Expansion and Volatility of Inverse Funds
The universe of inverse and leveraged inverse funds has expanded to include sector-specific and single-stock products. However, these may be smaller and less liquid than more established funds, and can be much more volatile, as warned by Aniket Ullal, head of ETF data and analytics at CFRA Research.
Potential Risks
Finally, new businesses must consider the potential risks. Leveraged inverse funds can experience significant losses if the market rebounds, and some inverse products are exchange-traded notes, introducing potential credit risk. Therefore, new businesses should carefully evaluate their risk tolerance and consider the potential drawbacks before investing in these funds.
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