E Leveraged ETFs: When And How To Use Them

The primary goal of this article is not to encourage an investor to use leveraged ETFs but educate those that would like to use them.  I also will explain how the ETF sponsor intends for you to use their products and my recommendations for using their products.  Many ETF managers offer leveraged ETF products, but for this study, I will focus only on three managers.  Direxion, ProShares, and VelocityShares are the three ETF managers that I often use, and just for this reason, I selected them.  There are many good ETF managers in the market, but if I researched all of them, I feel that the point of this research would get polluted by repetitive information. 

Leveraged ETF's Applications:

DAY TRADE: In my opinion, leveraged ETFs were designed for day trading.  Before investing in any financial product like an ETF, bond, fund or a company that just completed an IPO, I read the prospectus.  When I visited the website of the three ETF managers that I mentioned above, I noticed that they all used the same word in their leveraged ETFs' product overview and is even in the actual name of the ETF.  DAILY.  For example, the Direxion Daily MSCI Brazil Bull 3X Shares ETF (TICKER: BRZU).  The overview statement for BRZU states that: "This leveraged ETF seeks a return that is 300% of the return of its benchmark index for a single day. The fund should not be expected to provide three times the return of the benchmark’s cumulative return for periods greater than a day."  By only reading this phrase, it is possible to conclude that this ETF should be used as a very short-term investment.  This conclusion assumes that your goal is to track the underlying index with a minimal tracking error of which in the long-term BRZU will not have.  

OVERLAY:  If the investor knows they will receive money from a long lost relative who just recently died, they might want to overlay these funds to match the current portfolio allocations.  If for some reason the investor doesn't have access to the derivatives necessary to execute an overlay or the cost of the derivatives is too high, then he can use a Leveraged ETF.  Imagine that the investor's relative left them with $50,000 that will be deposited in their account in one month and the investor has 10% of his portfolio invested in EWZ.  The investor could use $5,000 from their margin account to invest in EWZ, or they could use $1,666.67 to invest into BRZU.  By investing in BRZU, the investor borrows less money, which means they pay less and have more funds available in their margin account to perform other overlays.  

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