What are leveraged and inverse ETFs in 2024?
Exchange-traded funds (ETFs) are a popular type of investment among investors because of their advantages in terms of diversification and low costs.
Investors should be aware of certain specialty ETFs because they have distinct characteristics and hazards.
Leveraged ETFs and inverse ETFs are two of these specialized ETFs.
Also read: What are bond ETFs?
ETFs with leverage
Leveraged ETFs aim to increase the returns of an underlying index or asset class.
To accomplish their goal, these ETFs leverage financial derivatives like options and futures contracts.
For instance, a 2x leveraged ETF that follows the S&P 500 would seek to deliver twice the S&P 500’s daily return.
The leveraged ETF would increase by 2% if the S&P 500 increased by 1%, and it would decrease by 2% if the S&P 500 decreased by 1%.
Leveraged ETFs may seem like a good investment, but they carry a lot of risk.
Also read: Leveraged Inverse ETF List.
This means that the returns from a leveraged ETF may differ dramatically from the underlying index if you hold it for an extended period of time.
Second, leveraged returns’ compounding effect might work against you, particularly during times of severe volatility.
Last but not least, leveraged ETFs have higher expenses than conventional ETFs, which can gradually reduce your returns.
Some of the largest leveraged ETFs on the 2024 list include:
SOXS: This ETF offers 3x daily short leverage to the PHLX Semiconductor Index, making it a powerful tool for investors with a bearish short-term outlook for semiconductor equities.
TBT: This ETF offers 2x short-leveraged exposure to the broad-based Barclays Capital U.S. 20+ Year Treasury Index, making it a powerful tool for investors with a bearish short-term outlook for U.S. long-term treasuries.
QID: This ETF offers 2x daily short leverage to the NASDAQ-100 Index, making it a powerful tool for investors with a bearish short-term outlook for technology equities.
DRV: This ETF offers 3x daily leverage to an index comprised of U.S. REITs, giving sophisticated investors a powerful tool for expressing a bearish short-term view of the U.S. real estate sector.
FAZ: This ETF offers 3x daily short leverage to the Russell 1000 Financial Services Index, making it a powerful tool for investors with a bearish short-term outlook for the broad financial market.
SOXL: SOXL has a beta of 3.92. This ETF offers three times daily long leverage to the PHLX Semiconductor Index, making it a powerful tool for investors with a bullish short-term outlook for semiconductor equities.
UPRO: UPRO provides 3x leveraged daily exposure to a market cap-weighted index of large-cap and mid-cap US companies selected by the S&P Committee.
TQQQ: TQQQ provides 3x leveraged exposure to a modified market-cap-weighted index tracking 100 of the largest non-financial firms listed on NASDAQ.
UDOW: UDOW provides 3x leveraged exposure to the price-weighted Dow Jones Industrial Average, which includes 30 of the largest US companies.
FNGU: FNGU tracks three times the daily price movements of an equal-weighted index of US-listed technology and consumer discretionary companies. The MicroSectors FANG+ Index 3X leveraged exchange-traded note aims to triple the daily return of an index of so-called FANG stocks, meaning Facebook, Amazon, Apple, Netflix, and Google-parent Alphabet Inc.
Also read: Inverse Equity ETF List.
Inverse ETFs
As their name implies, inverse ETFs seek to deliver returns that are the antithesis of those of an underlying index or asset class.
A -1x inverse ETF, for instance, would seek to give the opposite of the S&P 500’s daily return and track it.
A 1% increase in the S&P 500 would cause the inverse ETF to decrease by 1%, while a 1% decrease in the S&P 500 would cause it to climb by 1%.
Also read: Active vs. Passive ETF Investing: What’s the Difference?
Inverse ETFs can be used as a hedging strategy to guard against portfolio downside risk.
You may, for instance, purchase an inverse ETF that tracks the S&P 500 if you have a stock portfolio and are concerned about a market decline in order to balance any losses.
Inverse ETFs include considerable risks, much like leveraged ETFs.
Among the most popular inverse ETFs in 2024 are:
SQQQ: SQQQ provides (-3x) inverse exposure to a modified market-cap-weighted index of 100 of the largest non-financial firms listed on the NASDAQ. SQQQ is an aggressive take on the large-cap space by providing geared inverse (-3x) exposure to the NASDAQ-100 index, an index of 100 tech-heavy firms listed on NASDAQ that excludes financials.
SPXL: SPXL provides daily leveraged exposure to a market-cap-weighted index of 500 large-cap and mid-cap US companies selected by the S&P Committee.
SH: SH provides inverse exposure to a market-cap-weighted index of 500 large- and mid-cap US firms selected by the S&P Index Committee. SH offers a 1-day bet against the S&P 500 and provides the liquidity required to allow investors to use it as such.
SDOW: SDOW provides 3x inverse exposure to the price-weighted Dow Jones Industrial Average, which includes 30 of the largest US companies. SDOW is an aggressive, 1-day bet against the Dow Jones Industrial Average—perhaps the most famous index in the world.
PSQ: PSQ provides inverse exposure to a modified market-cap-weighted index of 100 of the largest non-financial firms listed on NASDAQ. PSQ makes a straight bet against the popular QQQ ETF by providing inverse exposure to the NASDAQ-100 index, an index of 100 tech-heavy firms listed on NASDAQ that excludes financials.
SOXS: SOXS provides daily 3x leveraged inverse exposure to a modified market-cap-weighted index of 30 US-listed semiconductor companies. SOXS makes big, bearish bets against the highly concentrated semiconductor industry by using swap agreements, futures contracts, and short positions.
SPXU: SPXU delivers a very aggressive single-day bet against the S&P 500, ratcheting up the leverage to provide 3x inverse exposure to the widely followed index. SPXU provides three times the exposure to a market-cap-weighted index of 500 large- and mid-cap US companies selected by the S&P Committee.
SDS: SDS provides a 1-day leveraged bet against the S&P 500 in a very liquid vehicle that’s well-aligned with the tactical nature of the product.
SPXS: SPXS is an extremely aggressive bet against the S&P 500, promising to provide -300% of the index’s return for a one-day period.
TBT: TBT gives 2x inverse exposure, reset every day, to a market-value-weighted index that tracks the performance of US Treasury securities with remaining maturities of more than 20 years. TBT is a choice for levered bets on rising interest rates. Using a combination of swaps and futures, TBT gives investors -2x exposure to daily moves in T-bonds with more than 20 years left to maturity.
TMV: TMV provides daily inverse (-3x) exposure to the ICE U.S. Treasury 20+ Year Bond Index. Using a combination of swaps and futures, TMV gives investors -3x exposure to daily moves in T-bonds with more than 20 years left to maturity.
TZA: TZA offers (-3x) daily inverse exposure to US small-cap companies as per the Russell 2000. The underlying index specifically contains the 1001st through the 3000th securities pulled from the Russell 3000 index, which covers approximately 10% of its total market capitalization.
YANG: YANG is an aggressive daily bet against Chinese large-cap equities, delivering -3x leveraged exposure to about 50 large and liquid names traded in Hong Kong.
SARK: SARK is an actively managed fund that seeks to achieve -1x the return, for a single day, of the ARK Innovation ETF (ARKK) through swap agreements with major global financial institutions. SARK provides daily 1x inverse exposure to ARKK, an exchange-traded fund composed of companies globally involved with, or that benefit from, disruptive innovation.
SJIM: SJIM is the actively managed opposite of the long ETF LJIM, with a narrow portfolio of companies globally, invested inversely on the recommendations of television personality Jim Cramer. The fund holds long and short stocks, or ETFs, of any capitalization. SJIM bets against the stock picks of the host of CNBC’s “Mad Money,” Jim Cramer. Cramer generally announces his recommendations and stock selections publicly on Twitter and on his CNBC programs.
TJUL: The Innovator U.S. Equity Defined Protection ETF seeks to track the return of SPDR S&P 500 ETF Trust (SPY) to a cap with a 100% downside buffer over a two-year outcome period.
Also read: Inverse Overview.
One can also purchase long and short (inverse) dollar etfs as below:
UUP: UUP tracks the changes in value of the US dollar relative to a basket of world currencies via USDX futures contracts. UUP goes long the US dollar and shorts the currencies of major US trading partners using USDX futures.
UDN: UDN tracks the changes in value of the euro, Swiss franc, Japanese yen, British pound, Swedish krona, and Canadian dollar relative to the US dollar via USDX contracts. UDN is more of a bet against the dollar than a bet on any particular currency.
Second, inverse return compounding can work against you, particularly during times of excessive volatility.
Moreover, inverse ETFs have higher costs than conventional ETFs, which over time may reduce your profits.
There are also some individual stock inverse ETFs:
AAPD: AAPD provides inverse (-1x) exposure (less fees and expenses) to the daily price movement for shares of Apple stock. AAPD is a short-term tactical tool that aims to deliver 1x the price return, less fees and expenses, for a single day of Apple stock.
MSFD: MSFD provides inverse (-1x) exposure (less fees and expenses) to the daily price movement of shares of Microsoft stock. MSFD is a short-term tactical tool that aims to deliver a 1-fold price return, with fewer fees and expenses, for a single day of Microsoft stock.
GGLS: GGLS provides inverse (-1x) exposure, less fees and expenses, to the daily price movement of shares of Google stock. GGLS is a short-term tactical tool that aims to deliver a 1-fold return on investment, less fees and expenses, for a single day of Google stock.
AMZD: AMZD provides inverse (-1x) exposure (less fees and expenses) to the daily price movement for shares of Amazon stock. AMZD is a short-term tactical tool that aims to deliver a 1-fold return on investment, with fewer fees and expenses, for a single day of Amazon stock.
NVDS: NVDS provides inverse (-1.25x) exposure (less fees and expenses) to the daily price movement for shares of Nvidia stock. NVDS is a short-term tactical tool that aims to deliver 1.25x the price return, less fees and expenses, for a single day of Nvidia stock.
TSLQ: TSLQ provides inverse (-1x) exposure (less fees and expenses) to the daily price movement for shares of Tesla stock. TSLQ is a short-term tactical tool that aims to deliver a 1-fold price return, with fewer fees and expenses, for a single day of Tesla stock.
Also read: Inverse Equity ETF List.
Leveraged and inverse ETFs use daily compounding as a method to calculate returns based on the daily performance of the underlying index or asset class. The compounding effect over time might make returns dramatically different from the underlying index.
Leveraged and inverse ETFs are more volatile than standard ETFs. They are more susceptible to short-term changes in the market because they are built to give amplified or inverse returns dependent on the daily performance of the underlying index.
Leveraged and inverse exchange-traded funds (ETFs) are intended to be held for brief durations, usually one day or less. The returns on these ETFs can considerably diverge from the underlying index if you keep them for a long time, which could result in losses.
Inverse and leveraged ETFs may have less liquidity than regular ETFs. This implies that their bid-ask spreads might be greater, which could raise trading expenses.
Counterparty risk: To meet their investing goals, leveraged and inverse ETFs use derivatives like options and futures contracts. Because of this, investors are subject to counterparty risk, or the chance that the counterparty will break the terms of the derivatives contract.
Tax ramifications: Compared to conventional ETFs, leveraged and inverse ETFs may have different tax ramifications. For instance, higher long-term capital gains tax rates can apply if you hold a leveraged ETF for longer than a year.
Conclusion
Specialized ETFs, like leveraged and inverse ETFs, can provide investors with distinct advantages.
They do, however, carry a high level of risk and are not appropriate for all investors. Investors should carefully evaluate their investment goals, risk tolerance, and any potential costs before purchasing these ETFs. Most markets always rise, so inverted or short ETFs decay extremely fast. One needs to use them only as a trading tool and have a quick exit strategy.
It is also crucial to read the prospectus, comprehend how these ETFs operate, and recognize the hazards before investing in them.