Highly Volatile, New, Direxion Triple ETFs Could Revolution Day Trading

I promised myself that once the new Direxion 3x and -3x ETFs started trading at least a million shares a day that I would take them out for a test drive. Well, I didn’t have to wait very long. Launched just last week, two of the eight new ETFs hit the million share mark last Thursday and a third missed only by a rounding error.

To recap for those who do not follow this space, Direxion is the first company to offer ETFs that have a targeted return which is leveraged to three times and minus three times that of the underlying indices. So far the biggest successes have been the large cap 3x bull (BGU) and large cap -3x bear (BGZ) ETFs, which are based on the Russell 1000 index. Also proving popular are the small cap 3x bull (TNA) and small cap -3x bear (TZA) ETFs, which follow the Russell 2000 index.

The sector ETFs are off to a slower start. These include the large cap 3x bull (FAS) and large cap -3x bear (FAZ) based on the Russell 1000 financial services index; and the large cap 3x bull (ERX) and large cap bear (ERY) based on the Russell 1000 energy index.

A look at the table below of Thursday’s results shows that these ETFs are like nuclear weapons when it comes to volatility. The average change in these eight ETFs Thursday was a 25% difference from the previous day’s close. ERY closed at 52.44 Thursday. Not only did it lose 28.48 points, but its intra-day range was 35.06 points. It is only a slight exaggeration to say that you can sneeze and miss your position losing ten points. Needless to say, these super-charged ETFs are not for everyone. If you like to go skydiving, keep a pet alligator in the bathtub, and dream of a winter king crab fishing in the Bering Strait, then you will be right at home with the Direxion ETFs.

As I traded these for the first time on Thursday, several interesting things happened. First, just entering a position was an adventure, almost like trying to jump in a Lamborghini while it sped by at 120 mph. I immediately went into position management mode, because the value of my ETF was changing so quickly that it required my full attention. Very quickly, I realized that one cannot trade these triple ETFs without finely honed trading rules and an iron will to act on them at all costs. In this world, there is no room for hoping. Any sort of “it will come back” thinking could quickly turn a 5% loss into a devastating 20% loss. Ironically, the high volatility of these ETFs forces the trader to rely on (or learn) tight trading discipline.

Retail investors might want to take these ETFs out for a test drive too, but be forewarned that there is a disaster scenario looming around every corner. For these very same reasons, I anticipate that hedge funds currently day trading options will find these ETFs to their liking, particularly as volume and liquidity improve. In a deleveraging world, this is one way to stock up on “off balance sheet leverage” and get the extra juice without having to commit to the extra margin.

Not that extra leverage is usually a good thing…

Comments

[searcher:]

Great, another way to shear the flock even while it's being herded.

2008 Nov 16 11:22 AM

[limitout:]

BGU closed at $36.80, low for week was around $30. So if we are at the low end of dow trading range, this is a good entry point for a temporary dow rebound. Any comments?

2008 Nov 16 12:36 PM

[Dinkytrader:]

The verb is "revolutionize." In its present form, in the title of this article, it is as bad as "gifting" someone with a present. Please don't bastardize this one too.

2008 Nov 17 01:26 AM

[Fatty:]

Beware the large expense ratios of these funds. They are definitely no good for long term holdings as the day-to-day volatility will dampen the returns over time.

Depending on the index return you are targeting, it may be beneficial to use futures to achieve the same leverage ratio (if a liquid future is available).

2008 Nov 17 11:14 PM

[Bob'29:]

FORTHCOMING CLASS ACTION LAWSUIT?: There have been two salient pieces of analyst insight into Direxion Funds that portray a picture of malific manipulation on the part of the Funds. One by Jim Cramer in a rant that these should be illegal, because they dump shares at the end of the trading day. This means that if you are not a day trader; there is no correlation to the related index that these funds portend to follow. There was another another piece that demonstrated this graphically by charting both a long and a short Direxion ETF against their followed index. BOTH the long and the short were BELOW the index after the charted period of time. Lets look for our letters asking for our participation in the legal action.

2008 Dec 08 12:37 PM