New Direxion Triple Leverage Funds: Proceed with Caution

If you need or want more leverage in your ETFs, today you’re going to have the choice.

Direxion is launching eight ETFs that are leveraged bull and bear funds designed to seek 300% of the daily performance, or 300% of the inverse of the daily performance, of the four indexes they track.

Among the reasons that Direxion went with triple leverage is that they’d be first on the market with a new and different product, instead of getting lost in a sea of similar products.

"ETFs that are first-movers tend to have an enormous advantage. We didn’t want to come out with products similar to what was already out there,” says Dan O’Neill, president and chief investment strategist. “We believe that that’s what’s going to distinguish them and that will hopefully be a point of attraction for clients. We’ve gone with high leverage because we think it’s attractive."

When these funds first appeared in registration, there was a bit of chatter about whether triple leverage was a great idea for investors. After all, someone who isn’t careful or mindful of the risks could land themselves in hot water with the standard long and short funds, let alone one that offers triple leverage.

But O’Neill cautions against viewing these or any other leveraged fund in a vacuum.

“The question we have is how you’re going to use them. What matters is how you use them in a broader portfolio. If you use them to hedge, it may lower your risk profile,” he says.

The funds aren’t meant to be the centerpiece of any investors’ portfolio, but as part of an overall strategy. Putting all of your eggs in one basket is never a good idea.

When someone hears ‘three beta,’ the assumption might be that someone would put 100% of their assets in that fund. They’re meant to be complementary or supplements. They can be used wisely.

O’Neill says that most of the criticism has come from those who see ETFs as something where every fund needs to be suitable for every investor, but that simply isn’t the case.

“There are lots of investment tools used at the margins or only used by certain players. This is a suite of products that can be used very wisely by certain investors,” says O’Neill.

The early appearance is that professional investors will find these funds of particular interest, including hedge funds, registered investment advisors and proprietary trading desks on Wall Street, says Bill Franca, Direxion’s head of sales.

“I don’t think they’re going to be used by passive investors who are checking their portfolio once every six months. That’s not what these products are for,” Franca points out.

“They’re meant to be used by people who are managing their portfolios very actively, by professional, sophisticated investors,” O’Neill adds.

Overall, these funds are just another tool in the shed for investors who want more leverage. Franca says, “We believe that leveraged ETFs have already proven their versatility in the marketplace. We feel that there’s definitely a place for leverage because of the ability of different firms to achieve leverage because of what’s going on in the market today.”

The new funds are:

• Direxion Large Cap Bull 3X Shares (BGU)
• Direxion Small Cap Bull 3x Shares (TNA)
• Direxion Energy Bull 3x Shares (ERX)
  
• Direxion Financial Bull 3x Shares (FAS)
• Direxion Large Cap Bear 3x Shares (BGZ)
• Direxion Small Cap Bear 3x Shares (TZA)
• Direxion Energy Bear 3x Shares (ERY)
• Direxion Financial Bear 3x Shares (FAZ)

Comments

[ff4444:]

I think these sound like a great product for short term traders, risk-parity sharpe ratio optimizers, and for black-swan barbell portfolio types.

Here is an example on how a 300% leveraged product could make your portfolio less risky during the recent/current crash. The 12 year return for a 100% equity portfolio resembling the S&P 500 was about -45%. An equivalent portfolio consisting of 33% BGU and 67% short term bonds would have suffered a loss of maybe 25-30% which is much much better in my opinion.

In a flat or rising year this leveraged portfolio would return, very roughly, the same as the un-leveraged equity portfolio plus the interest on a whole lot of bonds. Of course the usual caveats apply that the leveraged product may return dramatically more or less than 3x the performance of the underlying index over the medium to long term.

2008 Nov 05 05:37 PM

[ff4444:]

I think these sound like a great product for short term traders, risk-parity sharpe ratio optimizers, and for black-swan barbell portfolio types.

Here is an example on how a 300% leveraged product could make your portfolio less risky during the recent/current crash. The 12 year return for a 100% equity portfolio resembling the S&P 500 was about -45%. An equivalent portfolio consisting of 33% BGU and 67% short term bonds would have suffered a loss of maybe 25-30% which is much much better in my opinion.

In a flat or rising year this leveraged portfolio would return, very roughly, the same as the un-leveraged equity portfolio plus the interest on a whole lot of bonds. Of course the usual caveats apply that the leveraged product may return dramatically more or less than 3x the performance of the underlying index over the medium to long term.

2008 Nov 05 05:37 PM

[NOWHEREMAN:]

I like the ability to invest in a sector without picking and choosing within the sector. I firmly believe that demand destruction will eventually lead to demand especially if a reconstruction stimulus package is passed. Instead of buying 300 shares of an oil stock, assuming little or no dividend after taxes, I can buy 100 shares of the ERX ETF.

2008 Nov 06 10:37 AM

[kurt walter:]

Why screw around let's go to 30-1 leverage. Be a hedge fund fool.

2008 Nov 06 12:58 PM

[NOWHEREMAN:]

no thanks, 3 for the price of one is enough.

If your portfolio is down by 2/3rds, your playing field is resurrected without time restrictions.

2008 Nov 06 01:10 PM

[bearfund:]

"...assuming little or no dividend after taxes..."

I can see why your portfolio has lost 2/3 of its value.

2008 Nov 07 10:56 AM

[DVW:]

It's about time someone came along and offered Joe Investor more leverage. That's been a huge problem for so long, not enough leverage!

Sophisticated and professional money managers use futures, not 3x leveraged ETFs.

Not that I'm opposed to these funds, but let's call them what they are... a gambling vehicle for small investors who think they're "sophisticated". Most people wont cut their exposure by 3 with these things.

2008 Nov 07 11:02 AM

[Joe ETF Inv...:]

I love it!! Sometimes you need to add a little gunpowder to certain positions in your portfolio.

And pundits should stop attacking 'leverage' as a concept. Leverage in and of itself is not the problem - it's how it's used (or misused).

2008 Nov 07 02:26 PM

[Dividend Gr...:]

If the so called financial professionals can't manage their risks with leveraged instruments ( hint Lehman, Fannie, Freddie) then how do you expect individual investors to make money off these funds?

2008 Nov 07 02:39 PM

[User 52851:]

If the index it tracks goes down 34%, will it go down 102%? How’s that possible?

2008 Nov 09 04:04 AM

[Kav:]

If you're going long with these leveraged ETFs, you don't understand the effects of compounding. Especially in a flat but highly volatile market, you will lose your shirt. Here's an example of a period where big up and down swings left the S&P where it started and SDS hugely underwater. Not exactly -2x.

finance.google.com/fin...

Use these for short moves if you think you know what you're doing, but don't ever go long in them.

2008 Nov 11 05:46 PM

[Fatty:]

Exactly Kav, the funds are only intended to target the ONE DAY returns.

Since doubling the 1 day returns and taking the net yield does not equal double the yield of the single day returns, the ETF is not expected to mimic the leverage ratio * the long term yield of the targeted asset.

Check out my blog post for more info

2008 Nov 17 11:23 PM

[medcenter12:]

leverage funds are great long term investments. My humble opinion. I bought tons of MWJ. MDY or mid cap stocks always go up. And we can triple our returns with these funds.

May 13 11:24 PM