Leveraged ETFs: Not Bad, Just Misunderstood

With the controversy over leveraged exchange traded funds, many have fled the market and it is difficult to tell exactly how many retailer investors hold them.

Leveraged ETFs have been designed for short-term traders who want to maximize the movements of certain market sectors, hedge positions and short the markets. They are great tools that work exactly as they should for those who are educated and understand how they operate and what they’re for.

Leveraged ETFs are now getting a bad rap because some people who didn’t understand them used them and got burned in the process.

A recent regulatory filing indicated that 24% of ProShares UltraShort 20+Year Treasury (TBT), 11% of ProShares UltraShort S&P 500 (SDS) and about 9.7% of ProShares Ultra Financials (UYG) were owned by institutions, reports Daisy Maxey of The Wall Street Journal.

Does this mean that the remainder are owned by retail investors? According to ProShares LLC, these numbers are distorted because it doesn’t reflect institutional investors who don’t have to file a 13F with the Securities and Exchange Commission.

Regardless, retail investors make up a good chunk of those that utilize these investments and will have a significant impact on there future.

Meanwhile, the momentum against leveraged funds is gathering steam in Massachusetts, says On Wall Street. The state subpoenaed four brokers in order to get sales, revenue and training records. Those brokers are Ameriprise, UBS, LPL and Edward Jones, all of which in recent days have announced that they’re no longer selling those types of funds in response to FINRA’s warning. FINRA has since backed off its initial warning and noted that the funds can be appropriate for use by financial professionals.

Leveraged and inverse ETF providers all have addressed the issues and misperceptions about their funds that have cropped up in the last several months.

• Direxion noted that there is no one holding period that’s universally appropriate for leveraged and inverse funds. The products can be held for days, weeks or even a month or more, depending on the market, the investor’s view and goals.

• ProShares released their own study last month about the effects of compounding.

The bottom line is, before any investor chooses to buy these funds, they need to understand how they work. They’re not like other ETFs, but that doesn’t mean they’re bad. It’s also important to note that these funds are not for everyone, something even the providers have repeatedly stressed.

Kevin Grewal contributed to this article.

Comments

[corey mendel:]

Interesting article. However i find the timing and content similar to Dave Fry's.

Aug 04 06:27 PM

[RiskReturnO...:]

TBT is best of the leveraged ETFs as retail investor has no other liquid way of hedging rising inflation / weak dollar ... treasury futures are not easily tradeable for average investor .... buying TIP is not quite the same as being long TBT (although their is some correlation).

Aug 04 08:03 PM

[ff4444:]

I beg to differ RiskReturnOptimizer: there are other options open to retail investors. They can buy precious metals, commodities, currencies of commodity producing countries, or dollar bearish ETFs to hedge against a weakening dollar.

Good article Tom, it is great that we have leveraged ETFs available - now we just have to use them correctly and at the right time!

Aug 05 02:18 AM

[Tom Lydon:]

To take it a step futher, take a vote on levergaed ETFs and express your opinion by clicking on the link below.

www.etftrends.com/2009...

Aug 06 05:11 PM

[BOK:]

I own UYG and have been holding it for months and I am now doing well. While I may not be like typical retail investors (like anyone else reading this), I appreciate having the flexibilty to either hedge or follow my intuition on an opportunity. Appropriately, I only have a small percentage of my portfolio allocated to such investments.

Aug 07 11:06 AM