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An Inverse ETF For Exposure To Bearish Daily S&P 500 Returns

By Investing.com (Tezcan Gecgil/Investing.com )ETFsJan 29, 2021 09:12AM ET
www.investing.com/analysis/an-inverse-etf-for-exposure-to-bearish-daily-sp-500-returns-200557410
An Inverse ETF For Exposure To Bearish Daily S&P 500 Returns
By Investing.com (Tezcan Gecgil/Investing.com )   |  Jan 29, 2021 09:12AM ET
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The earnings season has brought increased volatility as well as downward pressure on broader U.S. indices. As of yesterday, the S&P 500 index has now given up the 2021 gains and is in negative territory for January. The index is seen as a good barometer of the overall stock markets performance.

S&P 500 Weekly
S&P 500 Weekly

In 2020, however, the S&P 500 returned more than 16%, highlighting the importance of investing for the long-run for most retail investors, without worrying about the market’s short-term swings. Over the past 52 weeks, the index has increased by 15%.

Similarly, the SPDR S&P 500 ETF Trust (ASX:SPY), an exchange-traded fund (ETF) that provides exposure to the index, is also up about 15% in the past year. In January 1993, SPY became the first ETF to be launched stateside. It is also the largest one at present. 

SPY Weekly
SPY Weekly

However, what if investors want to book some downside profits if there is a big leg lower, for example, in the S&P 500? Is there a financial instrument that can achieve that goal?

Inverse (or short) ETFs are among such products, as their value increases if the corresponding benchmark index falls.

Today, we discuss the important general characteristics of inverse ETFs and introduces one such fund that might appeal to those looking for inverse short (bearish) exposure to daily returns on the S&P 500.

Risk-Return Tradeoff

Inverse ETFs provide short exposure to the daily return of various indices, sectors or asset classes. 

There are also leveraged (or geared) inverse ETFs offering −2× or −3× the underlying index returns. In such funds, risks and returns become turbo-charged. 

In order to achieve the desired daily effect of “long negative exposure,” inverse funds typically hold complex derivative products, like swaps, futures and options.

Due to the compounding of daily returns, which we have covered in detail, any longer holding period could easily result in returns that significantly differ from the target. Therefore, for holding periods longer than a trading day, an inverse fund may not necessarily move inversely to the corresponding index.

Over longer periods, time decay and the negative rebalancing effect come into play. Thus, these inverse and (inverse) leveraged ETFs are more appropriate for short-term trading as opposed to long-term investing.

It’s important to highlight that these products offer the possibility of shorting the market without the risk of unlimited losses. In the past several weeks, the moves in the price of GameStop (NYSE:GME) stock have underlined the potential effect of short-covering.

This week has clearly shown when a stock is shorted, those taking the short position are exposed to that position going infinitely higher. In the case of an inverse ETF, the losses would be limited to the amount that the trader initially invested into the position.

While inverse funds can be effective hedging tools, traders would need to monitor portfolios carefully and possibly rebalance positions to maintain the hedge. On a final note, these funds typically have high expense ratios.

ProShares Short S&P 500

  • Current Price: $17.76
  • 52-Week Range: $17.39 - $33.19
  • Expense Ratio: 0.90%

The ProShares Short S&P500 (NYSE:SH) seeks daily investment results that correspond to the inverse (-1x) of the daily performance of the S&P 500 index.

SH Weekly
SH Weekly

Over the past 12 months, SH dropped about 25%, while the S&P 500 as well as SPY both increased around 15%. This difference in (inverse) returns shows us the daily hedging purpose of the fund.

The fund first started trading in June 2006. A longer-term chart shows the loss in the value of the fund.

SH Monthly
SH Monthly

Put another way, SH might initially look like a relatively straightforward ETF, allowing a non-leveraged shorting (-1x) of the S&P 500 index.

However, SH would generally be recommended only as a short-term trade. It should ideally be a relatively small holding in a more substantial portfolio.

Bottom Line

An inverse ETF like SH might provide market participants with some hedging tools or advantages. However, it can also lead to significant losses.

Inverse and leveraged (inverse) ETFs are typically not suitable for buy-and-hold investors since the long-run returns can be significantly below that of the underlying index.

Those investors who want to hedge some portfolio risk or have a bearish opinion on a certain market index or asset class may consider several other inverse exchange-traded funds, including:

Direxion Daily Junior Gold Miners Index Bear 2X Shares (NYSE:JDST)

Direxion Daily S&P 500® Bear 1X Shares (NYSE:SPDN)

MicroSectors US Big Banks Index 2X Inverse Leveraged (NYSE:BNKZ)

ProShares UltraShort MSCI Emerging Markets (NYSE:EEV)

ProShares UltraPro Short QQQ (NASDAQ:SQQQ)

ProShares UltraPro Short S&P500 (NYSE:SPXU)

Retail investors interested in inverse ETFs should consider talking to a registered financial adviser in their respective jurisdictions.

An Inverse ETF For Exposure To Bearish Daily S&P 500 Returns
 

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An Inverse ETF For Exposure To Bearish Daily S&P 500 Returns

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Comments (6)
Lou Theland
Lou Theland Feb 04, 2021 6:21AM ET
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I keep a small position in such ETFs and I cycle through by selling older shares so the decay doesn't hit that hard. someone's it's at a slight loss, sometimes I make a little and rarely I make a lot. I've made quite a bit with VIXY.
Drupal Grupal
Drupal Grupal Jan 29, 2021 8:02PM ET
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the key word here is "daily".  here is a simple example. The stock price drops from $10 to $1. Its inverse etf will gain 90% that day. On the following day, the stocks goes up from $1 to $2, the eft will lose its value 100%. so its better to use inverse eft strictly for day trading only. one up side of inverse etf is that your loss cannot exceed 100%. whereas in direct short position, can have unlimited losses. take for example if you shorted GME when it went from $3 to 10 and today GME is above $300, you would have lost several times your investment.
Joseph Obrzut
jzut Jan 29, 2021 4:48PM ET
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These are NOT hold and forget. If you hit these correctly for a few days congrats. These are day trading vehicles. Let's take for instance the Direxion one SPXS. If you get it right in the day you buy and as I say they start running for the doors at the close this will go up and sell before the close. Sometimes the market can be down 300 at the open and as the day goes on we're down 600. If you feel that will happen buy it. but if you're wrong get out.
John Rafaniello
John Rafaniello Jan 29, 2021 12:38PM ET
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Individual investors should not be allowed to trade these products. Unless you hit right on a big move it's a losing proposition. Stay away!
Sam Gordon
Sam Gordon Jan 29, 2021 12:38PM ET
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Who are you to say what somebody else should be able to invest in?
Shawn Pewitt
Shawn Pewitt Jan 29, 2021 12:38PM ET
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People do their DD and they know not to hold these costly leveraged plays
Michael Tong
Michael Tong Jan 29, 2021 5:09AM ET
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Thanks for your advice!🙏🙏
Luqman Firdaus
Luqman Firdaus Jan 29, 2021 4:58AM ET
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