I know it’s a recurring and controversial subject, but I’ve been reading up on leveraged index investing strategies (e.g. Hedgefundie’s leveraged ETFs, margin, call options on globally diversified indices/ETFs) and was wondering if you Mustachians are using any?
What are your experiences / insights?
If not, could you imagine any situation where you would consider any (e.g. after a strong market correction >30%, after panic selling events…)?
It is not exactly that gain on leveraged product would be taxed. In fact you have to comply with the five following rules to be considered as a non professional investor. If the answer is no to only one of the following points then you could be considered as a professional investor and all you capital gain would be taxable, even your long positions on the S&P 500.
Private investors should hold securities for at least six months before selling them
Capital gains of private investors do not account for more than 50 percent of their net income.
The total volume of transactions (purchases and sales) of a private investor does not exceed five times the value of the investment portfolio at the beginning of the tax period.
Private investors invest with their own money, not with loans
Private investors do not use derivatives (in particular options) unless it is to hedge the risks of their securities
In practice it always depends on the tax authorities, they decide whether you qualify as a professional investor on a case by case basis. E.g. if you buy a security and sell it 3 months later (violating rule 1) you are not automatically classified as a professional investor. There are for example a few people here in the forum that use margin loans for investing and are not qualified as professional investors.
That summary is imprecise. It’s also perfectly fine, from a tax perspective, to have a loan, as long as the interest you pay for the loan amounts to less than the taxable income from your investments (interest and dividends).
This formulation is not really correct either. If you comply with these five rules, you are guaranteed to be classified as non-professional investor. That may be a small but significant difference.
I recommend generally complying with these five rules but you shouldn’t be afraid of minor violations such as selling a small amount after less than 6 months. I’m also not concerned about the ‘capital gain less than 50% of net income’ rule after retirement with simple buy-and-hold investments.
Leveraged ETFs are quite unlikely to get taxed compared to options.
I consider leveraged ETFs high risk like crypto or investing in startups. So only a small part of your portfolio should be invested in these ETFs.
I also believed that Hedgefundie’s strategy is an excellent strategy in the long run. It can bring big returns and big drawdowns, but a great shape ratio.
The main risk would be that the ETF value goes to 0 if the market loses -33% in a day (for 3x leveraged ETFs).
I find this strategy incredibly fascinating in theory, and I’m saying this as a passive long term buy&hold global index investor. To my understanding, it’s practically Bogle on steroids. I’m not afraid of wild volatility as long as the strategy succeeds in the long run.
However, Bogleheads stress low cost as the main pillar of any investment. And that’s where I’m not so sure about Hedgefundie. Who knows how the costs of the underlying derivatives will evolve once the strategy gets more widely adapted? Maybe higher demand will lead to higher prices for the necessary derivatives?
Does someone know how this is treated tax wise? Is there a danger being classified as pro trader when investing in such an ETF? Also how about taxation, looked at a leveraged ETF from DB and it did not report any dividends in ictax - is there a danger of the entire return being taxed?