Leveraged ETFs, Leveraged Portfolios

Dear All,

I recently found the world of leveraged ETFs and I’d like to share my findings with you. It looks promising (and very risky), but worth to reserve some money for it. My selection is UPRO and I’m thinking on to spend 5% of my capital to buy and hold some.

Here’s a nice analysis of benefits and risk. Maybe others are interested:

https://seekingalpha.com/instablog/30945655-dane-van-domelen/3772386-buy-and-hold-s-and-p-500-bull-3x-etfs-e-g-upro-high-risk-massive-returns

This ATH time is not the best moment to invest into UPRO, but it will stay on my radar.

Regards,
Lexandro

2 Likes

While I love the topic of leveraging beware of how compounding works against leveraged ETFs in downward markets over time as they usually RE-balance daily! The performance is asymmetric and ongoing volatility destroys your returns. If you have sufficient assets in your bank, rather ask for lombard facilities and control this issue on your side than to entrust it a badly designed product that can destroy more $$$ as it should as most leveraged ETFs:
1] https://www.cfainstitute.org/learning/products/publications/contributed/performance/Documents/leveraged_etfs_rf_op.pdf
2] https://thecollegeinvestor.com/4414/leveraged-etfs-dont-match-market-performance/
Applying leverage can generate extremely interesting portfolios with asset allocations and risk/ return allocations which you couldn’t get otherwise.

1 Like

I’d recommend to avoid them. The odds are stacked against you. Let’s say the index drops by 10% - you lose 30%, and now you need to gain 42.8% to recover. If the index just goes back to where it started, it won’t be enough, you’ll still have a loss of about 7%.

And if it drops by 30+% you’re done

I know its risky that’s why I invest only 5%, but on the other side I never saw 30% drop in S&P 500 and on the long run (not seeing 2-3-4 days moves) it has significant benefit. At the beginning I decided it invest 10% of my savings into risky/interesting assets (leveraged etf, cryptocurrency, startups, etc…)

But I fully agree with you. Everyone must be very careful with this and shouldn’t invest into it without proper understanding and risk taking habit.

If you assume that the stock market in a whole always increases in the long run and you don’t care if you need to wait, I am sure some financial instruments allow to benefit from that. Maybe American call ? For sure, leverage ETF could be an idea. Monthly leverage ETF seems less risky.

The result of an ETF: S&P500 leverage 3x rebalanced every 10 years would be incredible (assuming a reasonable TER )

Also have a look at this article: https://seekingalpha.com/article/3121916-2x-daily-vs-2x-monthly-s-and-p-500-etfs-and-sso-vs-dxslx-updated?page=2

Can someone explain to me why does rebalancing affect leverage? Leverage is like a loan. Even if they don’t rebalance daily, I’m sure they will check if your position is still positive?

As the probability of a recession is starting to increase I was thinking about investing in leveraged ETFs rather than the standard world portfolio (after a crash). What are your thoughts on this?

The UltraPro SP500 gained 32%/year in the last 10 years as an example. The 3x leveraged Nasdaq ETF even 45%/year. I know that this is extremely risky as volatility decay might destroy all of your assets. But what about bull markets like we had since 2008? Would it be really such a bad idea?

I was thinking about 25%/75% in 3x leveraged ETF/standard ETF. Worst case would be that you get 75% of the market returns (as you lose everything), best case would be that you get 1.5x market returns.

1 Like

Allow me to rephrase the underlying questions of your considered strategy:

  • Shall I (try to) time the market?
  • Shall I leverage my investments?

I’d say no to both of these ideas in general…

You might enjoy this thread : HEDGEFUNDIE's excellent adventure [risk parity strategy using 3x leveraged ETFs] - Bogleheads.org

3x leveraged ETF do not give 3x index return, only in the most favourable conditions. they are only intended for very short term speculative bets. One of the reason is that lots of return long term comes for reinvested dividend. The leveraged ETF do not distribute dividend and simply track daily performance 3x.

If you invested 100k in the SP500 10 years ago, you would have around 300k today. The UltraPro SP500 (3x leveraged) would be at 2.2 Mio.

2 Likes

It makes a lot of sense if you know that the bull market is going to last long enough. Right now, it would be an extremely risky bet since we are at the top of a 10 years bull market.

And one thing is important with leveraged instruments, a down turn x3 is much more significant than a recovery x3. If you invested in 2008 in a 3x leveraged ETF, it would have taken 10 years to recover.

And they have higher fees and since they are rebalanced every day, they are very subject to volatility.

They were never really meant for the long-term investor.

in the last 10-year, UPRO has sharpe ratio of 0.91 (risk adjusted return)
VTI has a sharpe ratio of 0.99.

So on a parity base (risk adjusted) VTI was 8% better than UPRO per unit of risk that you partook.

We should not compare apple to orange. A leveraged product has higher risk thus higher potential reward. You need to compare product on a risk adjusted basis.

and in tha last 10 years UPRO was not better than say VTI. You can see it even in portfolio visualizer:

so yes, you got way more rich, but you were exposed to a much higher risk, and didn’t get as good a reward for your risk as you would have stayed in VTI.

sources: yahoo risk page:

But please, feel free to do whatever you want with your money, as long as you understand the risk you expose yourself to

1 Like

I think a lot of people were waiting to know how 3x ETF would react to a crisis.
With the data from this year, we get some answers.

I’m really happy to see that the result is as expected.

1 Like

Some people said that these funds wouldn’t be able to replicate the 3x factor in a high volatility environment, other that the fund would become 0.

Leveraged ETFs can’t go to 0. You’ll need -33.4% in a single day. I think only a nuclear bomb in a major US city could cause such a decline.

I like the non-sense of this sentence :slight_smile:

I would say VT can’t go at zero, unless the end of our civilization and 3x ETF can go at zero in case of a major event. I think during the dot com bubble a 3x leverage Nasdaq would have gone near 0.
(I’m only speaking of 3x ETF following major index, not 3x VIX)

Hedgefundie made simulations. TQQQ would have had a -99% drawdown or something like that. But then again, it made 40%/year in the last 10 years, that’s an increase by factor 30.

1 Like

Dear All,

I am interested in this specifc topic - whether using leverage when rather young (20-35 years) is an intelligent way (risk-adjusted) to improve returns to achieve FIRE earlier than initially planned.

Is anybody using any form of leverage?

  1. (Capital-)Leverage using debt (margin account)
  2. (Return-)Leverage using derivatives (options, futures and others)
  3. (Return-) Leverage using LEFT’s (Leveraged ETF’s)

If so, may I ask you what your concrete strategy is based on the leverage part of the portfolio? How much are you leveraging? What types of instruments are you using and why?

If not, what are the arguments against using leverage?

4 Likes

i also don’t. But:

A potential benefits of going leverage when young is to get more “constant” exposure to stocks over your lifetime.
Don’t get addicted though.
And I eventually advocate for leveraged ETFs vs margin and derivatives