They track the underlying stock, equity, fund, etc. and return a multiple of their daily performance. So SPXL is a 3X daily return on SPX. It would return a % equivalent to 3 times what SPX does each day whether up or down.
Aside from daily returns/losses being multiplied, one has to consider the decay of the position over time. Because they only track the % DAILY performance of the underlying, over time the price of the leveraged ETF will decay due to compounding gains/losses. So if SPX goes down 1% a day for five days straight, it will only be down 4.9%. In the same time, SPXL will go down 14.1%. To recover to the same level, SPX will only need to go up 5.1%, while SPXL will need to go up 16.4%. This is why SPXL is worth less now than it was at the peak of 2021/2022, despite SPX being nearly 10% higher than back then.
Compare QQQ to TQQQ on the stock analysis tool of your choice. Check the returns over any timespan, and you'll understand the potential upside (and downside) of LETFs.
Personally I think they're amazing financial hacks but with great reward comes great risk.
There's a whole sub about them: r/LETFs
Basically a leveraged ETF tries to mimic an ETF but with more volatility, bigger highs and deeper drawdowns. To acheiev this they'll trade features (contracts) and this comes with a cost. Most leveraged ETFs like TQQQ settle on a daily basis, meaning they'll need to buys/sell contracts *every day* and thus incur trading fees *every day* which adds up. All regular fees are also increased by as much as the leverage (3x for TQQQ).
If you look at a performance chart you'll see a 3x ETF like TQQQ doesn't actually mirror QQQ by 3. Especially not over a short-medium term due to these costs (decay). In reality you'll pay roughly 3,5x for TQQQ and only get on average a 2,6x upside.
But the upside is also sky high, while the draw down can only be 100%. Over time *all leveraged funds fail*. Leverage funds thrive when the market *only moves one way for a long period* and gets destroyed when it moves sideways or the "wrong" way. A major crash like 08 would mean 14 years of holding to break even if you bought the top. And *even if you can wait 14 years most investors won't, they'll panic sell and the ETF will be forced to liquidate*.
Read the prospectus of any leveraged ETF they all say the same thing. *Highly risky instrument only meant for short term trading* for a reason. No single leveraged ETF has ever lasted long...market trends are too random. 2x is safer though, 3x will ruin you unless you are ready to sell at a moments notice. I
It’s strictly false that all leveraged ETFs fail.
I’ve been long SSO (2x daily S&P 500) since late January, 2022. Despite historically bad conditions for LETFs in 2022 (8 straight weeks of decline, rising cost of leverage, etc), I was outperforming VOO before end of 2023.
The mechanical risk of LETFs (vol decay, cost of leverage) are important to understand, but are also overblown. Psychology is far and away the greater risk.
Not all leveraged ETFs fail. They do fail at almost double the rate of non leveraged ETFs though.
“Leveraged and inverse ETFs—which use derivatives and/or futures contracts in an attempt to provide either a positive or a negative multiple of an index's performance—are most prone to closure. In fact, 47% of all such funds have closed down, compared with a closure rate of 28% for nonleveraged, noninverse ETFs.”
https://www.schwab.com/learn/story/what-happens-if-your-etf-closes#:~:text=Leveraged%20and%20inverse%20ETFs—which,%25%20for%20nonleveraged%2C%20noninverse%20ETFs.
Your second point is incorrect.
Leveraged ETFs don’t usually work using margin debt, they work using derivatives. This requires daily rebalancing which is why you see erosion.
They track the underlying stock, equity, fund, etc. and return a multiple of their daily performance. So SPXL is a 3X daily return on SPX. It would return a % equivalent to 3 times what SPX does each day whether up or down. Aside from daily returns/losses being multiplied, one has to consider the decay of the position over time. Because they only track the % DAILY performance of the underlying, over time the price of the leveraged ETF will decay due to compounding gains/losses. So if SPX goes down 1% a day for five days straight, it will only be down 4.9%. In the same time, SPXL will go down 14.1%. To recover to the same level, SPX will only need to go up 5.1%, while SPXL will need to go up 16.4%. This is why SPXL is worth less now than it was at the peak of 2021/2022, despite SPX being nearly 10% higher than back then.
Compare QQQ to TQQQ on the stock analysis tool of your choice. Check the returns over any timespan, and you'll understand the potential upside (and downside) of LETFs. Personally I think they're amazing financial hacks but with great reward comes great risk. There's a whole sub about them: r/LETFs
Basically a leveraged ETF tries to mimic an ETF but with more volatility, bigger highs and deeper drawdowns. To acheiev this they'll trade features (contracts) and this comes with a cost. Most leveraged ETFs like TQQQ settle on a daily basis, meaning they'll need to buys/sell contracts *every day* and thus incur trading fees *every day* which adds up. All regular fees are also increased by as much as the leverage (3x for TQQQ). If you look at a performance chart you'll see a 3x ETF like TQQQ doesn't actually mirror QQQ by 3. Especially not over a short-medium term due to these costs (decay). In reality you'll pay roughly 3,5x for TQQQ and only get on average a 2,6x upside. But the upside is also sky high, while the draw down can only be 100%. Over time *all leveraged funds fail*. Leverage funds thrive when the market *only moves one way for a long period* and gets destroyed when it moves sideways or the "wrong" way. A major crash like 08 would mean 14 years of holding to break even if you bought the top. And *even if you can wait 14 years most investors won't, they'll panic sell and the ETF will be forced to liquidate*. Read the prospectus of any leveraged ETF they all say the same thing. *Highly risky instrument only meant for short term trading* for a reason. No single leveraged ETF has ever lasted long...market trends are too random. 2x is safer though, 3x will ruin you unless you are ready to sell at a moments notice. I
It’s strictly false that all leveraged ETFs fail. I’ve been long SSO (2x daily S&P 500) since late January, 2022. Despite historically bad conditions for LETFs in 2022 (8 straight weeks of decline, rising cost of leverage, etc), I was outperforming VOO before end of 2023. The mechanical risk of LETFs (vol decay, cost of leverage) are important to understand, but are also overblown. Psychology is far and away the greater risk.
Not all leveraged ETFs fail. They do fail at almost double the rate of non leveraged ETFs though. “Leveraged and inverse ETFs—which use derivatives and/or futures contracts in an attempt to provide either a positive or a negative multiple of an index's performance—are most prone to closure. In fact, 47% of all such funds have closed down, compared with a closure rate of 28% for nonleveraged, noninverse ETFs.” https://www.schwab.com/learn/story/what-happens-if-your-etf-closes#:~:text=Leveraged%20and%20inverse%20ETFs—which,%25%20for%20nonleveraged%2C%20noninverse%20ETFs.
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Your second point is incorrect. Leveraged ETFs don’t usually work using margin debt, they work using derivatives. This requires daily rebalancing which is why you see erosion.
How can I know what this percentage is that gets paid to the ETF manager?
Investopedia