These ETFs Will Kill You

There's nothing wrong with most exchange-traded funds. ETFs typically provide indexed exposure to marketplace segments in real time -- something you don't get from the more traditional open-ended mutual fund.

However, we're starting to have a problem with a few ETFs on steroids, including Direxion Daily Financial Bull 3x Shares (NYSE: FAS  ) , ProShares Ultra Financials (NYSE: UYG  ) , Direxion Daily Financial Bear 3x Shares (NYSE: FAZ  ) , and ProShares UltraShort Financials (NYSE: SKF  ) , which offer greater exposure to the financial-services sector.

The 3x Direxion funds strive to replicate a move that is 300% of what happens with the financial-services stocks within the Russell 1000. The ProShares Ultra vehicles may seem comparatively tame in offering just a 200% kick off the Dow Jones U.S. Financials index.

Then again, we're also talking about the banking sector, which is volatile enough on its own. Have you seen the stock charts on leaders and bleeders like Bank of America (NYSE: BAC  ) and Citigroup (NYSE: C  ) ?

Buying into the financial-services sector these days is like riding a mechanical bull on its roughest setting. Buying into one of the Direxion funds is like riding the same mechanical bull during an earthquake. It's a wilder ride, but take the time to notice the rubble around you.

The failure of Direxion's controversial 3x funds should be evident right now, as both the bear and bull funds executed reverse splits this morning. The bullish wager on the financial space went through a 1-for-5 reverse split. Its bearish counterpart had to go through a more humiliating 1-for-10 reverse split.

Think about that for a moment. These are both reverse splits, financial rescues for stock prices that have fallen to low levels. This isn't a 1-for-5 reverse split on one vehicle, offset by a more conventional 5-for-1 split on the other. Both ETFs have failed, and that is problematic for fans of these concentrated ETFs and, obviously, for the companies managing them.

It's not a surprise to see regulators shaking their heads. These funds may perform as expected for a day or two, but they are proving to be compounding nightmares for anyone banking on these ETFs for longer than that.

In short, they're not working. We're seeing reverse splits today. Let's hope we see them split -- period -- tomorrow.     

Some other links to bank on:

Longtime Fool contributor Rick Munarriz  has no problem being the banker in Monopoly, but he owns no shares in any of the companies mentioned in this story. He is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early. The Fool has a disclosure policy.


Read/Post Comments (22) | Recommend This Article (40)

Comments from our Foolish Readers

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  • Report this Comment On July 09, 2009, at 5:03 PM, FreundInvesting wrote:

    These behave exactly as their supposed to. If there is a several month decline in banking shares, the compounding upward in FAZ is tremendous. Several months of decline, the compounding downward in FAZ is also tremendous. Several months of sideways markets, both FAS and FAZ succumb to decay.

    If you believe you can predict long periods of up or down markets, you can make money.

  • Report this Comment On July 09, 2009, at 5:12 PM, Timewontletme wrote:

    Bought FAS in March. Gee, it's up only 88% so far. They can reverse split all day long. I don't care. Here's a clue for the people that write these lame articles. Buy low, sell high. I'll explain that later, but for now, I would buy FAS again if it dips to $30 (at its new split price). Sure, the financial sector has been seriously hurt, but unless you think that all the big banks are going to be liquidated, jump in now for a rebound. Earnings will appear good for the short term (next 12 months), then get out before the commercial real estate whammy hits.

  • Report this Comment On July 09, 2009, at 6:41 PM, FarrahFawcett wrote:

    FAS and FAZ work perfectly!!! They were design to be trading vehicles!! READ DIREXION PROSPECT PLEASE. THEY ARE NOT INVESTMENT VEHICLES they are TRADING VEHICLES.

    The should be use to trade short trends.

    The thing that amazes me is the ingnorance of the people that write this articles... OFCOURSE ONLY IF YOU ARE AN IDIOT YOU ARE GOING TO BUY THIS THINGS AND HOLD THEM FOR 3MONTHS!!!!!!!!!!! MOST OF THE PEOPLE THAT TRADE THIS INSTRUMENTS DON'T DO THAT JUST CHECK LEVEL II AND LEVEL III ACTIVITY

    YOUR IGNORANCE IS 10X+

  • Report this Comment On July 09, 2009, at 8:02 PM, brianc410 wrote:

    Why not short both and hold both for a year.

  • Report this Comment On July 10, 2009, at 12:50 AM, wtfdidyousay wrote:

    Rick Aristotle Munarriz -

    do you know what a prospectus is? do you know how to read? if the answer to both of those questions is "yes", then you should never have even thought of writing this "article", and making yourself look rather unsophisticated.

    for the last time, folks: 3X ETF'S ARE SHORT TERM TRADING VEHICLES THEY ARE LONG TERM INVESTMENTS.

    do your d/d people (and motley fool writers) or you deserve to lose every penny risked......

  • Report this Comment On July 10, 2009, at 12:52 AM, wtfdidyousay wrote:

    correction: "they are NOT long term investments......"

  • Report this Comment On July 10, 2009, at 9:45 AM, TMFBreakerRick wrote:

    Of course they are intended as short-term trading vehicles. I'm wondering about the "do you know how to read" shot, because at the end of this article I write:

    "These funds may perform as expected for a day or two, but they are proving to be compounding nightmares for anyone banking on these ETFs for longer than that."

    You may want to check with the earlier poster on this thread that has been holding FAS since March, though.

  • Report this Comment On July 10, 2009, at 9:58 AM, marklawrence wrote:

    Don't get it, do you?

    Say the underlying index starts at 100. Goes down 10% to 90. Ultrashort fund goes up 20% to 120.

    Now the underlying index goes up 11.11% from 90 to 100. Ultrashort fund goes down 22.22%, but not 22% of the smaller number 90, or even 80, it's 22% of a larger number, 120. It goes down to 120-26.66 = 93.34. You permanently lost 6.66. All leveraged funds trend downwards for this simple reason, and need reverse splits from time to time for this simple reason. It's also for this simple reason that you should not be in them for more than a couple weeks.

    The long term decline is proportional to volatility^2, at least that's the first term in the taylor expansion. If there is zero volatility in the stock then it tracks perfectly. But since you can't seem to multiply I doubt you can figure out something like proportionality and squares, and I'm guessing you think taylor expansion is about some guy named taylor who really needs to lay off the cheesecake.

    Failed. Yah, something is failing here.

    Leave the math and the daring conclusions to people who actually learned calculus.

  • Report this Comment On July 10, 2009, at 10:02 AM, portefeuille wrote:
  • Report this Comment On July 10, 2009, at 10:10 AM, FreundInvesting wrote:

    BreakerRick-

    These investments are not daytrading vehicles... Rather I like to think of them as trend-trading vehicles. If the trend is up, these perform as expected until the trend continues. If the trend is down, same thing. Sideways is a wash for both.

    So they can track performance for weeks, months, or even years, as long as the trend is one specific direction.

    Regards,

    Ryan

  • Report this Comment On July 10, 2009, at 10:10 AM, FreundInvesting wrote:

    I should clarify, I don't mean they're NOT daytrading vehicles... rather they're not ONLY daytrading vehicles.

  • Report this Comment On July 10, 2009, at 10:48 AM, hjmcg wrote:

    These funds process reverse share splits for the simple reason that small price fluctuations in their underlying indexes wouldn't be captured if the fund's NAV were low.

    An extreme example: FAS is trading at .01... The Russell 1000 Financial moves 1%... The new NAV would be .0103, or basically the same as it started.

    As the NAV moves lower, pricing the fund becomes harder.

  • Report this Comment On July 10, 2009, at 11:42 AM, impatient01 wrote:

    You can make some good money reading this website and then doing the opposite of what its columnists recommend.

    I've done quite well with actively-managed (but not daytraded) leveraged ETFs. Just takes trailing stops and a little luck.

    On the contrary, the one stock I bought on the recommendation on one of these columns is now down 88%. My own fault for not doing my own DD. Still, fool me once...etc.

  • Report this Comment On July 10, 2009, at 12:12 PM, MADACASTO wrote:

    Seriously though, these boilerplate TMF headlines, of the declarative sort, completely undermines the potential quality of the content. Look at this "These ETFs Will Kill You". Really? No wonder the columnists get slammed. I've seen some good commentary by the author of this article and others, but TMF should really get rid of these absolute declarations made in their headlines. Their attention grabbers, and obviously support whatever deal they have with websites like yahoo! finance, but it completely destroys the merit of the content (or enhances the lack of, in some cases). It's basically like trying to package a steak in a McDonald's wrapper and telling me it's something I should eat on a regular basis. Maybe they should change it to The McMotley McFool, because that's what their marketing and image reminds me of.

  • Report this Comment On July 11, 2009, at 12:51 AM, yamazed wrote:

    My goodness you really should get FIRED to write such stupidity... On the other hand I think I would FIRE most of you guys at FOOL.

    Common now UYG and SKF trade opposite of each other. If you are savy enough and know what is in the news and what reports are going to come you accordingly sell or buy either UYG or SKF. Sure there will days where you are wrong but the market is predictable at some level.

    EFTs can kill idiots like you who but guys like me as well as many others like me can make us a good living as investors.

    Make your money work and work for your money. Don't let the stocks work for you.

    I am just amazed by what FOOL writes sometimes. I hope you consider writing to people on how to pick good stock and EFTs rather than bashing them.

    Get SERIOUS UYG/FAS/SKF/FAZ are picks that will make a poor man rich if properly guided.

    Rick you truly and literally are a FOOL of the month to write such garbage. You are FIRED!

  • Report this Comment On July 13, 2009, at 9:03 PM, mallster wrote:

    This is classic MTF.

    At 12:08pm on Jun 24th, Rick Aristotle Munarriz wrote this article...

    http://www.fool.com/investing/small-cap/2009/06/24/5-more-st...

    Around 3.5 hours later on the same day, another Motley writer wrote the following...

    http://www.fool.com/investing/small-cap/2009/06/24/6-stocks-...

    This makes the whole team look like a fool.

  • Report this Comment On July 15, 2009, at 12:40 AM, mtr wrote:

    5 years from now the financial stocks will be much higher. Go UYG

  • Report this Comment On July 15, 2009, at 6:56 PM, alexreising wrote:

    Brian 410c has an interestng point.....

    One that I may actually attempt to harness after earnings season in the form of a long dated put spread.....

  • Report this Comment On March 07, 2010, at 11:22 AM, CatFoodMoney wrote:

    "is like riding the same mechanical bull during an earthquake," heh heh. That's awesome.

  • Report this Comment On April 05, 2010, at 3:33 PM, FudRucker54 wrote:

    When this article was written, UYG was at 3.42. Today, 4-4-2010 it is at 7.00. FAS was at 37.46 on 7/9/2009, and now at 101.49, although I don't own it and some say it did a reverse split during that time. I bought UYG at 2.36 on 3/13/2009 and have HELD as an INVESTMENT since then, and enjoying my 200% return as of today as I sell some. Just because they are leveraged, and compounding decay is real, I am tired of people saying "oh no it is not an investment." Bull&^%t! Just don't buy it then. I also bought URE, ROM and UCD as investments. As I'm taking my profits...I will remember these are not investments.

  • Report this Comment On September 01, 2010, at 2:03 PM, FASnFAZrLOSERS wrote:

    Rick Munarriz nailed this one. Sure people from March 2009 are doing well in FAS. And yes FAZ has done well the past few months but look at these two compared to the Russell 1000 year-to-date. Both are down, while the index is sideways. Now look at FAZ and FAS over the past year, Sept 1, 2009 and still both funds are down over 20%. Makes perfect sense, right??? Seems to much to explain away by differences at the end of the each day. If you time these right and are in and out I am sure you can do well, but these do not appear to be a long term answer.since August of 2009, Rick warned everyone in July. Does not appear anyone is prepared to pat him on the back. But even those lucky enough to get in these back in March 2009, can not be happy with the performance the past year, and should be concerned at the decaying value of both.

  • Report this Comment On September 01, 2010, at 2:19 PM, FASnFAZrLOSERS wrote:

    Look at the Russell 1000 (IWD) on Sept 15th 2009 thru Sept 1st 2010. It about breaks even. Then compare to FAS and FAZ. I am sure someone is making money, but not the investors. Don't like my dates, try looking from January 1, 2009 to current.

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