It can be difficult for inexperienced investors in a bearish climate if they don’t know options, futures, or have never shorted stock. The motivation behind creating inverse ETF products was to allow investors to simply buy shares and make money in the market sells off. In addition to making money as the market declines, companies have been able to add leverage that is two to three times the daily movement of the underlying. Here are five inverse and leveraged ETFs to consider using in a sell-off.
While the advantages of buying a fund that moves inverse to the market isn’t exactly a difficult task, understanding the trade-offs can be. Leveraged funds use what’s called “daily resetting.” That means that the price is only intended to track the performance for a single day and will reset the next day. For example, if the S&P 500 declines 1%, a 2x leveraged inverse ETF will increase by 2%. After the daily move is tracked, it starts over the next day with a clean slate.
That clean slate is a potential issue with these tracking funds. The issue is that while the price will track the underlying index for a single day, it doesn’t necessarily track over time. If the underlying index is experiencing large countermoves the leverage can be an issue. For example, a 5x leveraged fund that sees the underlying index move 10% in a day would generate a loss of 50%. If the next day, the index increases 11%, it makes back all of its losses. The 5x leveraged fund only increases 55% when it would take a 100% return to get back to where it was. This risk describes daily compounding.
Because of the daily resetting, if the fund is to be held overnight, the move has to be very directional with small countermoves. That means holding for short holding periods of days to weeks.
Here are five different Inverse and leveraged ETFs that can used if the market sells off this week.
Inverse & Leveraged ETF #1: Direxion Daily Technology Bear 3x ETF (NYSEARCA: TECS)
TECS seeks a return that is -300% of the Technology Select Sector Index benchmark for a single day. The index is provided by the S&P Do Jones Indices and includes domestic companies from the technology sector. The includes the following industries: computers and peripherals; software; diversified telecommunications services; communications equipment; semiconductors and semi-conductor equipment; internet software and services; IT services; electronic equipment, instruments and components; wireless telecommunication services; and office electronics.
The top three companies that the index has exposure to is Microsoft Corp (MSFT), Apple Inc (AAPL), Visa Inc (V). The ETF is 22% higher from Wednesday’s closing price.
Inverse & Leveraged ETF #2: ProShares UltraPro Short Dow 30 ETF (NYSEARCA: SDOW)
SDOW seeks a return that is -300% of the Dow Jones Industrial Average for a single day. Just like other leveraged ETFs, there is risk due to the compounding of daily returns. The Dow Jones recently made changes to the composition of the index and its largest component, Apple Inc (APPL), went through a stock split to lower its price.
As a price-weighted index, Apple’s impact was just lowered significantly with its 4:1 split. The top three components of the Dow Jones are United Health Group Inc (UNH), Home Depot Inc (HD), and Salesforce.com, Inc (CRM). The ETF is 9.9% higher from Wednesday’s closing price.
Inverse & Leveraged ETF #3: ProShares UltraPro Short S&P 500 ETF (NYSEARCA: SPXU)
SPXU seeks a return that is -300% of the S&P 500 Index for a single day. Just like all leverage ETF that have returns that are greater than 100% of the daily performance, there is risk due to daily compounding.
As a market cap weighted index, the weighting will favor companies that have the largest market capitalization. As a result, it will allow you to short the largest companies in the world. The top three components are Apple Inc (AAPL), Microsoft Corp (MSFT), and Amazon.com Inc (AMZN). The ETF is 13.03% higher from Wednesday’s closing price.
Inverse & Leveraged ETF #4: ProShares UltraPro Short QQQ ETF (NASDAQ: SQQQ)
SQQQ seeks a return that is -300% of the Nasdaq 100 index. The Nasdaq is a more tech-heavy index at a 48.24% weighting in the index. Since it includes more than one sector, it bridges a gap between a sector fund and the S&P 500 Index fund.
The Nasdaq 100 index is a market cap weighted index. The top three components of the index are Apple Inc (AAPL), Microsoft Corp (MSFT), and Intel Corp (INTC). The ETF is 19.94% higher from Wednesday’s closing price.
Inverse & Leveraged ETF #5: : ProShares UltraPro Short Russell 2000 ETF (NYSEARCA: SRTY)
SRTY seeks a return that is -300% of the Russell 2000 Index. Because this is a small-cap index, it tracks a different set of companies than any of the other funds on this list.
Like many of the other indices on this list, the Russell 2000 is market cap weighted index. The top three components of that index are Penn National Gaming, Inc (PENN), Churchill Downs Inc (CHDN), and Sunrun Inc (RUN). The ETF is 11.05% higher from Wednesday’s closing price.