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Monday, April 20, 2009


levered ETFs as portfolio insurance

via paul kedrosky -- a barclays white paper on the gamma hedging implications of levered exchange traded funds.

anyone who's used these understand that they cannot be held -- the structure decimates capital with volatility. they work well only in strong trending markets. but that they might be the progenitors of exactly such trending is not immediately obvious.

[L]everaged ETFs must re-balance their exposures on a daily basis to produce the promised leveraged returns. What may seem counterintuitive is that irrespective of whether the ETFs are leveraged, inverse or leveraged inverse, their re-balancing activity is always in the same direction as the underlying index's daily performance. The hedging flows from equivalent long and short leveraged ETFs thus do not "offset" each other. The magnitude of the potential impact is proportional to the amount of assets gathered by these ETFs, the leveraged multiple promised, and the underlying index's daily returns. The impact is particularly significant for inverse ETFs.

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