Structure Matters: O’Neill On Geared ETFs

June 03, 2014

Weiskopf: When you look at these past 12-month returns for the Direxion Daily Gold Miners Bear 3X (DUST), the Direxion Daily Gold Miners Bull 3X (NUGT) and the Market Vectors Gold Miners (GDX | A-61), if you held them throughout the whole year, you actually would have lost money in all three products, despite the index being down 35 percent.

O’Neill: The one-beta ETF—GDX—was down approximately 37 percent for the year ended March 31, 2014. Our levered bull ETF—NUGT—lost almost 88 percent, which is a large loss and not surprising given the loss for GDX. Our levered gold bear ETF—DUST—had a very slight gain. It did not have larger gains because it was impacted by the volatility of the index rather than just the returns of the index for the 12 months.

Gold miners experienced very high volatility last year and continue to. It’s a fast-moving sector—large moves and reversals from day to day. It’s a trader’s market much more than an investor’s market. It’s moving too quickly to hold, at least in a levered product.

Again, however, I find evaluations of the performance of a daily-beta ETF for a year to be academic and beside the point. Hopefully no one held the products for anything approaching a year and the performance of the funds for a year does not describe our traders’ experience with the products, which tends to be for days or weeks.

The media loves to do what you have just done and imply that something is wrong, when there is nothing at all amiss. Shares in DUST have average turnover of around 50 percent per day—meaning volumes are equal to half of assets. Looking at performance for a year is not at all descriptive of how the product is used.

Weiskopf: You mentioned something about that your products can’t go to zero. The reason is that, structurally, based upon the math, they just can’t?

O’Neill: To go to zero, a fund would need to experience a negative move in one day of greater than 33 percent. It’s unlikely, but it could happen. I should also point out that because of stock exchange rules and otherwise, the major indexes should never move more than a certain percentage on a daily basis.

As you get into more esoteric indexes, you could have greater volatility and greater single-day moves. But what we’re looking at is single-day moves. I hope an index never moves that drastically. Even if a fund never goes to zero, the fact is that the products are risky, and the real issue is that you can have huge losses when you invest in these products.

On a long-term basis, levered products can and have experience massive losses. FAZ, as an example, has seen huge moves go against it, which has caused multiple reverse splits. We hope people as prudent investors have been educated to not look at these ETFs for long-term positions, but for purposes of example, for this interview, a holder from 2009 of FAZ may have lost about 99 percent of their investment.


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