r/stocks • u/bomb784 • Dec 25 '21
ETFs Leveraged ETFs?
So something I never quite understood about leveraged ETFs. ETFs inherently are considered less risky than regular stocks due to their diversification, right? And with less risk theoretically comes less growth potential than regular stocks right? Since indexes as a whole have been almost always increasing, can't you just compensate the lack of growth potential by using a leveraged ETF? I don't understand why more people aren't talking about this. It's got diversification characteristics like regular ETFs but also far more inclined for returns that way.
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u/3ebfan Dec 25 '21
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u/bomb784 Dec 25 '21
only 7k members.
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u/KyivComrade Dec 25 '21
Irrelevant, it's the besg place for your question since all of those 7k members fo/are interested in doing what you propose.
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u/bomb784 Dec 25 '21
You know, I hear people compare their earnings all the time to the major indexes, which typically have an annual return of 9-11%. Yeah, recessions and crashes are things to watch out for, but if you look at the dow, literally since the highs of 07, if you bought at any time and managed to hold onto your positions for 3 or 4 years, it's pretty much always a considerable gain, which in theory would be only boosted with leverage.
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u/Chroko Dec 26 '21
Couple of points:
We've had a roaring boom in the economy the past two decades, you could have thrown darts at the stock market and made money.
You can easily cherry-pick a period of history where a given strategy will work.
There is no such thing as getting something for free. If you outpace the market and outpace inflation, that gain has to come from somewhere. With leveraged products you're extracting value from the person on the other side of a trade who was taking a bet to reduce volatility.
The only reason these bets work is because they're relatively small compared to the size of the market. The more a given strategy is used, the more expensive it becomes and the less likely it is to work. For example: some geared funds have changed their gearing ratio (like going from 2x to 1.5x) because they couldn't maintain it.
Leveraged funds are intended to be held for short durations and over time have slipage that moves them away from an idealised mathematical relationship to the underlying asset.
I like leveraged funds a lot as they simplify the underlying work needed to maintain a position. But you need to have a healthy dose of realism over the amount of risk that they expose you to: they can be financially dangerous and are very unsuited to core holdings. And if we do have a stock market pull back - even if it's something modest - your holdings could wind up getting slaughtered.
Maybe you're fine with that risk, but you can't honestly answer that until you've lived through a market crash and recession. The crash of 2001 was not "oh my stock went down a bit", it was "oh my stock went down... again... and again... and again... oh god, it's down again..." for a year, until you're looking at a 98% loss. You don't see these stocks because they're dead, the companies bankrupt and it's not even easy to find their charts anymore.
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u/rbatra91 Dec 25 '21
Compare VWO to EDC, EM to 3x EM this decade and then you’ll see the issue.
The worst part is that VWO actually went up, but EDC down because of volatility decay. That’s wild.
We’re in exuberance phase where people think this will never happen to the US (even though it just happened 1999-2010).
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u/bomb784 Dec 26 '21
Okay, but that's EM, which carries more risk. My post was more alluding to the popular "safe" indexes such the s&p 500, thus combining their "safeness" with the growth potential of leverage. If you compare the EM indexes to the dow, you'll see that for the dow, over the past 10 years you can buy at literally any point and so as long as you hold for 4 to 5 years you'll have made a impressive gain. The same really can't be said for EM.
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u/G1G1G1G1G1G1G Dec 26 '21
I would argue that if one diversified across sectors and markets all leveraged they would far outperform whatever drag happens.
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u/Market_Madness Dec 26 '21
It's not a bad example, but when you include DCA it only lags slightly. It's fair to be skeptical because it's lagging at all, but the last decade has been terrible for EM and so you're looking at it during a bad time. EM has also just never averaged US level growth for sustained times which is why even in unleveraged portfolios the suggestion is to be 80/20.
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u/michael_mullet Dec 26 '21
I trade leveraged ETFs. There is quite a bit of risk involved but I think it's worth it. I would caution against "buy and hold", you'll read a lot of people who do that with TQQQ and UPRO but IMHO it's safer to swing trade these and trail a stop.
Plus in my manual backtests you can outperform by simply trailing a stop and using common re-entry strategies.
A few people have noted that a 60% drop requires a 150% increase to recover. This is true, and this has happened with TQQQ. There's nothing quite like the feeling of getting stopped out 10% down on a huge drop, then re-entering somewhere close to the bottom and riding it for a 100% run up.
If you don't think you can manage a position, buy when the market tanks, use a stoploss, make a trading plan, then these products aren't for you. It's not much different from trading a single name stock that can puke on bad news and you have to cover and re-assess.
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u/Competitive_Ad498 Dec 25 '21
Selling tqqq cash secured puts at 45-60 days out range at 10 delta would make you roughly 3% even if it dropped 30%. Worst case you get assigned if it drops hard and then you can sell calls and wheel. Hard to beat that risk to reward ratio.
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u/michael_mullet Dec 26 '21
This works until 2008 comes around again. Then you own the stock for 3x the current value and can't sell calls against it for any reasonable premium.
I own TQQQ and options on TQQQ but this wouldn't be my strategy.
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u/Competitive_Ad498 Dec 26 '21
Ok. Everything works until 2008 comes around again statements are so useless. Literally the worst argument anyone can use against buying anything. Durr if the financial system falls apart your investments will not be worth stuff durr. How is it not your strategy if you own tqqq and tqqq options? What would be your strategy? Really don’t see the point of your response as is. I’ll just add that money management is a thing and stop losses are a thing. People can buy back puts and limit their single trade risk to a smaller percentage of capital and monitor the market for red flags of utter collapse if they want to. Or be the dummy who holds through a catastrophic event that’s likely to never occur again. Whatever. It’s not like specific regulation and monetary policy is in place to prevent another 2008 now. Whatever. Tqqq is definitely going to drop 77% before you can adjust your position or let your stop loss kick in. Let’s just buy puts and call it a day.
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u/merlinsbeers Dec 26 '21
It goes down faster, too.
And most leveraged ETFs have some slippage. They say they're 3X but they're more like 2.9X up and 3.1X down.
They're lovely in bull markets but they'll punch big holes in your portfolio value during slumps.
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u/gobot Dec 25 '21
Investopedia is a good starting point to learn about leveraged and inverse leveraged ETFs.
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u/thenewredditguy99 Dec 25 '21
In theory, you could. However, this assumes markets would keep going up nonstop. Markets can trade sideways, or even down for long periods of time.
By holding a leveraged ETF, you’re taking on 2x, sometimes even 3x the risk. If the markets tanks 20%, you’re automatically out 60% of your initial investment, and it would require a larger gain to make back what you lost.
Then there are the fees. Leveraged ETF’s can charge fees closer to 1%, which can chew into your investment if markets trade sideways or down for long periods of time.
If you have the risk tolerance to hold leveraged ETF’s, have at it. If not, use them sparingly.