Cramer Is Right about Ultrashort ETFs

I've been doing a lot of reading lately on the construction of the ProShares instruments and frankly have to agree with the criticism. We bought Ultrashort Financials (SKF) and Ultrashort Real Estate (SRS) back in August 2007. Despite the carnage of a lifetime, Ultrashort Financial has only appreciated from $90 to $120 in almost a year and a half - that's ridiculous. Ultrashort Real Estate is down by almost 50% from where I first bought it in August 2007! This is despite the underlying instruments it is shorting against falling by 30-80% in many cases. That's insult to injury - not only would you not have made money, you lost money if you "bought and hold".

So we nailed both of these theses yet have benefited very little. It is becoming very apparent that due to the rebalancing (daily) in these instruments, they are useless for almost anyone other than daytraders or people who hold them for 1-5 days. They are constructed poorly. Someone holding SRS or SKF should have been able to buy it in August 2007, go on a 15 month vacation to Tahiti, and be up 50-100%+ at this time. Instead you are down severely on one and up way below potential on the other? What's the point?

We are sort of stuck because I cannot short individual names in Marketocracy.com, so all I have are the short ETFs to provide downside exposure. (people trading in tax protected accounts, i.e. rollover IRAs - have the exact same issue since shorting is not allowed) They work great on the days the market falls off a cliff, but each day the market goes sideways, they basically act like an option - you get time decay. It is so much like an option you need it not only go in the right direction but in a set amount of time; that's terrible for a long term hedge.

It would be far superior to short against the index these instruments are betting against so that you can actually benefit over the long run. I'm not sure if the non "Ultra" (2x) instruments work the same way (the 1xs) - this is something I have to look at during the next week. With how poorly these 2x ETFs work, if the 1x ETFs (non Ultra) don't have the same weaknesses, for purposes of someone like me who uses them as a hedge and wants to hold them for more than 5 days, they might be a better choice.

On top of all that, they are like a mutual fund and today declared distributions... cripes.

• ProFunds Group, the world’s largest manager of short and leveraged funds,1 has announced fourth quarter income dividend distribution declarations for its ProShares ETFs. The firm expects dividend distributions for 52 of its 76 ETFs. Capital gain distributions for 35 of the firm’s ETFs were announced earlier today.
• Distributions reduce the net assets of each of the affected ETFs as of the close of business today and the ETFs will trade ex-dividend tomorrow. Each portfolio’s exposure to its benchmark index will be adjusted today to reflect this reduction in assets.

I will give Mr Cramer kudos on this one; aside from adding to the extraordinary volatility in markets (8 of the 10 most traded "stocks" in the past month have been these lousy ETFs as institutions use them as gambling chips), they are constructed so poorly that even if you are correct on a thesis, you still lose. That's pathetic.

Disclosure: Long Ultrashort Real Estate, Financials in fund; no personal position

Comments

[Alan Brochs...:]

You answered your own questions about these securities. Anyone who reads the prospectus (a lost art I suppose) would know that these don't work well in non-trending markets. While you choose to look at Point A and Point B and then shoot the horse, realize that you kept shorting as the market went down (not just Point A), maintaining a constant exposure. Thus, when the market would rally back, your horse was weighed down with the additional burden.

For longer periods of time, just short or short on margin for leverage. Period. Unless the market is a straight shot, which it never is. Yes, these are trading vehicles.

I find it interesting that Cramer is apparently ragging on these things and blaming them for the market volatility (and probably direction too I suppose). Investing 101: Know what it is you are buying.

2008 Dec 23 04:50 PM

[thedawgie:]

Why the heck didn't you sell when the SRS hit 295. It is simply amazing how so called "investors" watch huge profits disappear. Instead of blaming the SRS you should be blaming your own greed.

2008 Dec 23 04:59 PM

[TraderMark:]

User, I sold out of most of SRS in the $240s to $280s

I trade these often; but my point is over the long run they should be far higher today versus a year ago or 15 months ago.

I trade around a core positions due to the heavy volatility. The question now is whether its worth to even have a core position at all since they don't work for extended periods of time if the market is not moving heavily in the "right" direction.

2008 Dec 23 05:23 PM

[Greg Pinelli:]

I listened to Cramer's discussion on Ultra short ETFs (a monologue really!)
and he made some very interesting points. He was making two arguments, however..not just one. The first I agree with..the second I don't.
The first argument is that these ETFs dodge the margin requirements that individual investors ave to contend with..a very valid and telling argument. It would appear that there is special treament of these investments and they definitely put the shorting on a beneficial footing it wouldn't otherwise enjoy.
The second argument is that these funds don't work..It's very hard to make that stick! I owned SRS at an entry of $70..sold it at $110..I can't imagine that anyone who held it at $200 or above (5-6!!! standard deviations above the norm) didn't have enough sense to sell
These vehicles are very useful..and I've made money on them all..However, they also have characteristics that I'm amazed the SEC didn't consider disqualifying.

2008 Dec 23 05:27 PM

[thedawgie:]

If you sold at 240 + why do you make the following claim in your article - "So we nailed both of these theses yet have benefited very little."

Sounds to me like you benefited but feel the need to complain. I suggest you read the prospectus or short the IYR the next time you want a bearish position on real estate.

Cramer is a joke. He would use US Taxpayer funds to bailout every Wall Street loser who made bad bets on derivatives but he is complaining about ETF's - give me a break.


On Dec 23 05:23 PM Trader Mark wrote:

> User, I sold out of most of SRS in the $240s to $280s
>
> I trade these often; but my point is over the long run they should
> be far higher today versus a year ago or 15 months ago.
>
> I trade around a core positions due to the heavy volatility. The
> question now is whether its worth to even have a core position at
> all since they don't work for extended periods of time if the market
> is not moving heavily in the "right" direction.

2008 Dec 23 06:01 PM

[Dr. James V...:]

Trader Mark is on the money as is Jim Cramer. The Ultra ETFs are explosive devices that need to be eradicated by the SEC. A check of the Yahoo message boards on these ETFs stongly suggests people buying and selling these things would be better off in Las Vegas.

2008 Dec 23 06:06 PM

[rayman:]

I agree with the author (having owned some of the ultrashorts in the past). The safer way to play in my opinion is option spreads on indexes.
Don't go MADOFF and get non-directionals!!!
I posted on another web-site something about a 119 SPY straddle in October and it BLEW up past 100% returns, but good point on indexes directly. Get rid of the dividends.

2008 Dec 23 06:48 PM

[BullAlert:]

I agree w/ thedawgie. You contradict yourelf. Did you even read the prospectus to understand that 2x DAILY returns are the benchmark? Mathematical examples are provided at Proshares.com; you should study these. Also tracking error plays a role as the ETF companies freely admit on their sites.

2008 Dec 23 07:10 PM

[keithpiccir...:]

I usually only read some of Cramer's thoughts on the recap, but played and watched the 5 minute segment.
I have played SKF, DUG, EEV, and SRS and have never held any one of them for more than 5 days.
I look for oversold conditions on MACD, stochastics, with an elevated VIX that is rising, along with a few other conditions. The rebalancing overnight with accompanying gappage is tough to deal with.
Personally I think SRS should be the best one to trade in the first quarter of 2009, but we will have to see if these securities will get clamped down on by the SEC. Just take a number.
A small part of my IRA has turned into a casino and that is not what I intended.
Paul Tudor Jones said, "Losers average losers".
I always sell if it starts to head south, and let the winners run a bit with trailing stoppage. ETF's can trend a lot, so one has to make a pretty educated guess that it is and will continue to trend up.
Looking forward to more stable markets though, that's for sure.

2008 Dec 23 08:13 PM

[punk_ash:]

I got burnt in some of these ultra long ultra short stuff. These products should not be made available to just about anyone. SEC is sleeping.

Anyhow, buy commodities and enjoy life.

2008 Dec 23 08:48 PM

[spiff1971:]

Trader Mark,

I was surprised that you invested in something you didnt understand.

while I agree that it would be nice to find an investment vehicle that gave you 2x or 3x the annual return of an index, that investment vehicle doesnt exist. Never has, probably never will.

They aim to give a return that is 2x the daily return and are pretty clear about that.

I've made a lot of money trading these and the 3x ETFs on a very short term basis. When I have held for the longer term, I have taken a beating.

It sounds like you have made some money - others have lost a lot of money by investing in investment vehicles they didnt understand.

2008 Dec 23 10:39 PM

[Ericbakardi:]

For an intelligent trader that understands how they function, the leveraged short or long ETF`s provide a great vehicle to get more bang for your buck. The problem is many people jump into them without knowing the dynamics of the fund. Only to find out later it is not what they thought it was. I look at the short ETF`s as insurance against a sudden market plunge not a long term hedge. When these ETF`s get to the extrme low end of their trading ranges they have proven time after time to be a wise purchase. Why Cramer is hammering them is anybodys guess. But i would venture to say it`s to further his and his friends agenda rather than yors and mine. Merry X Mas

2008 Dec 23 10:57 PM

[boulderf1:]

i won't comment on the performance, but tire of cramer's endless rant regarding the supposed volatility that these instruments create.

why has no one mentioned anything / complained about the ultra-longs? wouldn't those create the same sort of volatility to the upside? no one will urge the sec to ban these, will they now?

cramer whines because his charitable trust has been squashed by the bear market. no mention of the ultra shorts in oct 07 was there? or the uptick rule? nope, no complaints when everything keeps going up.

i'd like to hear jimmy's take on the ultra-longs - he has never mentioned them has he.

please, all you cramer supporters, your boo-yahs have been transformed into boo-hoo-yahs.

stop looking for a scapegoat b/c you never sold when you could have. *never* blame the markets, they will eat your lunch if you don't accept full responsibility for investment / trading decisions.

2008 Dec 23 11:35 PM

[User 142738:]

Check out FXP (double short Hong Kong-listed shares) versus FXI (long Hong Kong-listed shares). The prices have fluctuated wildly this past year, but while FXI closed down approximately 50% for the year, FXP closed down approximately 50% for the year as well. They had almost perfectly complimented each other (FXP up 100%; FXI down 50%) before the 20th of October. Now, unless the fees for the double-short ETF skyrocketed, this makes no sense.

Pity, too… shorting an ETF consisting mostly of Chinese financial and oil companies should have been a no-brainer, considering their wacky valuations circa 2007.

2008 Dec 24 12:21 AM

[blanco-dee:]

These funds are performing in a non-standard fashion - but everytime I make a single buck I feel its the right thing to do. No one else will punish the banks, and they won't even say what they've done with the massive amounts of money they've gotten out of our tax base, due to their irresponsible leveraging.

I say if you can't beat 'em, join em - irresponsible investing for the price of their heads is what I want, if you ever thought they'd treat you like a human being then you're the fool. Derive that.

Blanco-dee

2008 Dec 24 01:03 AM

[blanco-dee:]

User 142738 - I agree with your analysis, FXP also trades in a non-standard fashion, it should be rocketing up and it just doesen't,

I doubt there's much more we can get out of Trader Mark's blog other than he's a mark like ihnvestors in FXP,

he's "an experienced trader", which I judge from his profile means that he's just getting a clue too,

and to hell with the Chinese too, true capitalist liars in the business of over-leveraging everything, and lying about their own interests. If I make a single buck out of a short fund that benefits from their market rolling over, I'll have a great Christmas. Even if it takes until next year's,

BDO

2008 Dec 24 01:25 AM

[Anthony Alfidi:]

Cramer is wrong about a lot of things, but even a broken clock can be right twice a day. Any levered product like an ultra-short has the potential to misfire as the sponsoring firm's interest payments play havoc with returns.

2008 Dec 24 02:42 AM

[BxCapricorn:]

Cramer is right...about what exactly....

www.cramerproject.com/...

-35% so far.....not very good.

2008 Dec 24 07:26 AM

[GatorTrader:]

What a joke! Frankly, I am disappointed in Trader Mark and the rest of the posters (or should I say, "posers") who are whining about these leveraged ETFs. Typical crap - "We don't understand it so please let the Federalis regulate it more." What's next - "bail us out for our own losses and stupidity...."

Oh where have you gone Thomas Jefferson....

Take some ACCOUNTABILITY for your trading decisions. If you don't understand it, then don't trade it. At the same time, stop whining because someone else is smart enough to trade them profitably. SIMPLE....

2008 Dec 24 09:17 AM

[adan:]

interested in hearing what you find out re using the 1x etf's for longer term holds (vs 2x & 3x etf's)

- thanks!

2008 Dec 24 09:21 AM

[dennish:]

Interestingly the ProShares prospectus does not mention the rebalancing issue. There is one sentance which states that this instrument only performs for a day at a time. In my view, the prospectus is false and misleading in a very material way.

2008 Dec 24 09:41 AM

[hippiewanderer:]

The ultra longs has the same issues.

2008 Dec 24 02:48 PM

[bsharvy:]

There is no special treatment or dodging of margin of margin requirements. Does it dodge the margin requirement everytime you invest in a company with leverage? Or when you buy a leveraged closed-end fund? The leverage magnifies volatility, that's all. Are you dodging the margin requirements if you buy a stock with a beta of 2? The purpose of margin requirements isn't to prevent investors from benefiting from leverage. It's to prevent investors from losing more than they have. You can't lose more than you have with a leveraged ETF, so there is no dodging.

2008 Dec 24 08:44 PM

[Permacritical:]

This is where being a little naive, as in my case, benefits me. Why would you ever "buy and hold" a 2x's leverage bear ETF for 18 months? The major benefit is going to come from those few days when the market tanks and then you may as well get out of it. I am not an expert by any means, but SKF did me great when all the bank disasters hit and I never held it for more than two weeks. Unless you absolutely don't need the money or can handle volatilty, this market almost forces you to day trade or time the market. I've learned more about stock movements and underlying commodity markets in the last 6 months than I have in my previous 46 years because I now watch it every day. This is a great time to jump in and out of stuff like this. I am only down 20% on the year and with most of the rest of my money I am long on oil, gold, and silver. This should at least get me back on track to where I was at the beginning of 2008. I understand the concern with these and I have seen less responsiveness lately. Financials go up 4% and SKF goes up 6%. Small ripoff, but its better than 20% - looking on the bright side anyway.

2008 Dec 25 10:50 AM

[RDR:]

"I'm not sure if the non "Ultra" (2x) instruments work the same way (the 1xs) - this is something I have to look at during the next week."

I hope you will publish the results of your research. Many of us will be interested. Thanks!

Jan 02 06:39 AM

[igggy:]

Comparing SH (1x short SP500) with SPY, they match pretty closely with the exception of the recent distribution for SH. And that makes sense - aiming for 1x _daily_ performance produces the same result over a longer period of time as the underlying index since no 're-balancing' is necessary.


On Jan 02 06:39 AM RDR wrote:

> "I'm not sure if the non "Ultra" (2x) instruments work the same way
> (the 1xs) - this is something I have to look at during the next week."

>
>
> I hope you will publish the results of your research. Many of us
> will be interested. Thanks!

Jan 05 01:54 AM

[Cygnusx3:]

Wow! Aren't we holier than thou! If you didn't learn anything you didn't know before why don't you just go on your way instead of being insulting.

On Dec 24 09:17 AM GatorTrader wrote:

> What a joke! Frankly, I am disappointed in Trader Mark and the rest
> of the posters (or should I say, "posers") who are whining about
> these leveraged ETFs. Typical crap - "We don't understand it so
> please let the Federalis regulate it more." What's next - "bail
> us out for our own losses and stupidity...."
>
> Oh where have you gone Thomas Jefferson....
>
> Take some ACCOUNTABILITY for your trading decisions. If you don't
> understand it, then don't trade it. At the same time, stop whining
> because someone else is smart enough to trade them profitably. SIMPLE....

Jan 25 04:40 AM

[Tim Jones:]

Getting very annoying to see these kinds of articles on here. Learn to read the purpose of these funds. They are not designed for long term holding. How much more explicit can they make it? They are not designed for you to buy and then go into a coma for a few months and then come back to collect profits.

DAILY means DAILY.

Feb 12 10:35 PM

[Tim Jones:]

www.proshares.com/fund...

Feb 12 10:46 PM