The S&P 500 and Nasdaq have hit new highs thanks to the Federal Reserve’s quantitative easing policy, but the rising tide is not lifting all ETFs. In fact, it’s a bad year to be an inverse ETF, especially ETFs with double or triple inverse exposure to broader markets.
Year-to-date, the S&P 500 Index is up 26.4 percent and the Nasdaq Composite is up 33.11 percent, and the tech-heavy benchmark closed above 4,000 on Tuesday, Nov. 26, for the first time since late in 1999. Likewise, the S&P 500 closed above 1,800 for the first time Friday, Nov. 22, to a record 1,804.76.
By comparison, ETFs that are designed to bet against broader-market gains, including a slew of inverse-leveraged strategies, have pretty much bombed so far this year.
Some of those ETFs and ETNs and their returns are as follows:
- Barclays Short B Leveraged Inverse S&P 500 TR ETN (BXDB), down 63.8 percent
- ProShares UltraPro Short QQQ ETF (SQQQ), down 56.5 percent
- Direxion Daily S&P 500 Bear 3X ETF (SPXS), down 53.1 percent
- ProShares UltraPro Short S&P 500 ETF (SPXU), down 52.5 percent
Chart courtesy of StockCharts.com
By design, inverse ETFs move in opposite direction to their underlying assets and generally provide the inverse return of the underlying assets on a daily basis.
Many of the strategies rebalance daily, which creates so-called path dependency of the funds’ return profiles, meaning they can deviate quite a lot from the underlying indexes. That path dependency is plainly evident in the above returns. The losses of the inverse strategies don’t accurately mirror two to three times the gains of the S&P 500.
Paul Britt, senior ETF specialist at IndexUniverse, said that ProShares’ SPXU and Direxion’s SPXS are basically triple-exposure inverse versions of the S&P 500, so if the SPDR S&P 500 ETF (SPY | A-98) is up 28 percent, it would make sense that a 3x inverse ETF will be down “way, way deep in the weeds.”
“It’s certainly a tough year to be an inverse equities fund, especially ones with 3x exposure,” said Britt. “I know it sounds odd, but it’s basically doing what it’s supposed to be doing, so there shouldn’t be any surprise there.”
Broadly, the path dependency that characterizes the leveraged and inverse funds that rebalance daily makes such securities short-term instruments that are most appropriate for sophisticated investors who are well versed in the realities of relatively heavy trading.
Britt noted that the Barclays ETN, BXDB, isn’t one of the daily-rebalanced securities. The leverage factor depends on a given investor’s point of entry, but remains the same thereafter for that investor.
But that leverage factor can change from day to day, meaning different investors in BXDB have different leverage. For example, the ETN has ranged from single-inverse when it launched in November 2009 to five-times exposure in August, Britt said.
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