Most Popular
1. Banking Crisis is Stocks Bull Market Buying Opportunity - Nadeem_Walayat
2.The Crypto Signal for the Precious Metals Market - P_Radomski_CFA
3. One Possible Outcome to a New World Order - Raymond_Matison
4.Nvidia Blow Off Top - Flying High like the Phoenix too Close to the Sun - Nadeem_Walayat
5. Apple AAPL Stock Trend and Earnings Analysis - Nadeem_Walayat
6.AI, Stocks, and Gold Stocks – Connected After All - P_Radomski_CFA
7.Stock Market CHEAT SHEET - - Nadeem_Walayat
8.US Debt Ceiling Crisis Smoke and Mirrors Circus - Nadeem_Walayat
9.Silver Price May Explode - Avi_Gilburt
10.More US Banks Could Collapse -- A Lot More- EWI
Last 7 days
Stock Market Volatility (VIX) - 25th Mar 24
Stock Market Investor Sentiment - 25th Mar 24
The Federal Reserve Didn't Do Anything But It Had Plenty to Say - 25th Mar 24
Stock Market Breadth - 24th Mar 24
Stock Market Margin Debt Indicator - 24th Mar 24
It’s Easy to Scream Stocks Bubble! - 24th Mar 24
Stocks: What to Make of All This Insider Selling- 24th Mar 24
Money Supply Continues To Fall, Economy Worsens – Investors Don’t Care - 24th Mar 24
Get an Edge in the Crypto Market with Order Flow - 24th Mar 24
US Presidential Election Cycle and Recessions - 18th Mar 24
US Recession Already Happened in 2022! - 18th Mar 24
AI can now remember everything you say - 18th Mar 24
Bitcoin Crypto Mania 2024 - MicroStrategy MSTR Blow off Top! - 14th Mar 24
Bitcoin Gravy Train Trend Forecast 2024 - 11th Mar 24
Gold and the Long-Term Inflation Cycle - 11th Mar 24
Fed’s Next Intertest Rate Move might not align with popular consensus - 11th Mar 24
Two Reasons The Fed Manipulates Interest Rates - 11th Mar 24
US Dollar Trend 2024 - 9th Mar 2024
The Bond Trade and Interest Rates - 9th Mar 2024
Investors Don’t Believe the Gold Rally, Still Prefer General Stocks - 9th Mar 2024
Paper Gold Vs. Real Gold: It's Important to Know the Difference - 9th Mar 2024
Stocks: What This "Record Extreme" Indicator May Be Signaling - 9th Mar 2024
My 3 Favorite Trade Setups - Elliott Wave Course - 9th Mar 2024
Bitcoin Crypto Bubble Mania! - 4th Mar 2024
US Interest Rates - When WIll the Fed Pivot - 1st Mar 2024
S&P Stock Market Real Earnings Yield - 29th Feb 2024
US Unemployment is a Fake Statistic - 29th Feb 2024
U.S. financial market’s “Weimar phase” impact to your fiat and digital assets - 29th Feb 2024
What a Breakdown in Silver Mining Stocks! What an Opportunity! - 29th Feb 2024
Why AI will Soon become SA - Synthetic Intelligence - The Machine Learning Megatrend - 29th Feb 2024
Keep Calm and Carry on Buying Quantum AI Tech Stocks - 19th Feb 24

Market Oracle FREE Newsletter

How to Protect your Wealth by Investing in AI Tech Stocks

"Ultra" ETF Investing: The Newest Portfolio Killer

Companies / Exchange Traded Funds Jul 05, 2013 - 12:14 PM GMT

By: Money_Morning

Companies

Martin Hutchinson writes: Exchange traded funds (ETFs) have changed the face of investing for individuals as well as institutions.

These relatively new investment tools have made it easier to play sector rotations, go short the market or even leverage positions.


Yet at this point in the market cycle, this leverage becomes a double-edged sword for a particular set of ETFs: the Ultra set.

You see, investors like me who adopt a macro, top-down approach often want to use ETFs to take a position on an enticing sector.

Having made that decision, we're then tempted by Ultra ETFs, which offer us the possibility of 2x or 3x our gains.

Resist the temptation.

In general, Ultra ETFs are a snare, not because of any dishonesty in their sponsors, but because of the way they work.

Ultra funds are a species of ETF that attempt to double or triple the return you get on a particular asset class - on the long or short side. They do this by taking a futures position, long or short, that's 2x or 3x the amount of funds they have under investment.

The problem is that each night, when they calculate the net asset value of the fund, they must also adjust the futures position so that it's twice or three times the new value of the fund.

Too Good To Be True? Yes.

However, if the asset class bounces up and down in value, the ultra fund is continually buying high and selling low. Thus, over time it accumulates a "tracking error."

Depending upon the volatility of the asset class, this tracking error can prevent it from achieving the advertised performance, and it can make the fund decrease in value even when it should have increased.

For example, since January 2012, the unleveraged iShares Barclays 20+ year Treasury bond ETF (NYSE:TLT), which tracks the long-term Treasury futures contract, has declined in price from roughly 116 to 110, roughly a 5% decline.

You'd expect the ProShares UltraShort 20+ year Treasury ETF (NYSE:TBT), which was trading at about 73 in January 2012 and is supposed to track the inverse TLT with 2x leverage, to have increased by about 10%, to about 80.

You'd be wrong; TBT is still trading around 73.

And the Treasury bond futures contract has high trading volume and normally doesn't bounce around much. Yet even in this low volatility operation, over an 18-month period, the 10% profit you expected to make disappeared altogether.

In a higher-volatility operation, the results can be much worse.

I was invested in the ProShares UltraShort FTSE China 25 ETF (NYSE:FXP) in 2007-08 -- this one attempts to get 2x the inverse performance of the iShares FTSE China 25 Index Fund (NYSE:FXI).

I was correct about the Chinese market - it halved in about 9 months - but so did my investment in FXP.

Since January 2012, FXI is down about 10%, so FXP should be up about 20%, right? Well, it's actually down 20%.

DIY Ultra ETFs

That means you would have lost less money going long the plummeting Chinese market than if you had a leveraged short position. In other words, the only thing you're hedged against with many of these Ultras is the possibility of making a profit.

Of course Ultra funds are not nearly such bad investments as a trading vehicle, with a time horizon of a few weeks.

But over such a short period, the cost of selling a stock short is not that great. So even as a trade, you'd do much better selling TLT or FXI short than you would buying the corresponding Ultra inverse fund. You could even make your own Ultra, using margin to sell 2x short instead of using the Ultra ETF.

ETFs can be a very useful tool to give you exposure to a particular sector. If you feel strongly, you can get inverse exposure by selling the ETF short - provided you don't hold the position too long.

But Ultra funds are just a recipe for losing money.They make money for their sponsors, but they're very unlikely to make money for us as investors.

Beyond ETFs, Martin looks at global sectors that with strong potential in today's volatile markets.

Source :http://moneymorning.com/2013/07/05/ultra-etf-investing-the-newest-portfolio-killer/

Money Morning/The Money Map Report

©2013 Monument Street Publishing. All Rights Reserved. Protected by copyright laws of the United States and international treaties. Any reproduction, copying, or redistribution (electronic or otherwise, including on the world wide web), of content from this website, in whole or in part, is strictly prohibited without the express written permission of Monument Street Publishing. 105 West Monument Street, Baltimore MD 21201, Email: customerservice@moneymorning.com

Disclaimer: Nothing published by Money Morning should be considered personalized investment advice. Although our employees may answer your general customer service questions, they are not licensed under securities laws to address your particular investment situation. No communication by our employees to you should be deemed as personalized investent advice. We expressly forbid our writers from having a financial interest in any security recommended to our readers. All of our employees and agents must wait 24 hours after on-line publication, or after the mailing of printed-only publication prior to following an initial recommendation. Any investments recommended by Money Morning should be made only after consulting with your investment advisor and only after reviewing the prospectus or financial statements of the company.

Money Morning Archive

© 2005-2022 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in