What is an inverse ETF? (2024)

FAQs

What is an inverse ETF? ›

An inverse ETF is set up so that its price rises (or falls) when the price of its target asset falls (or rises). This means the ETF performs inversely to the asset it's tracking. For example, an inverse ETF may be based on the S&P 500 index. The ETF is designed to rise as the index falls in value.

An inverse ETF is set up so that its price rises (or falls) when the price of its target asset falls (or rises). This means the ETF performs inversely to the asset it's tracking. For example, an inverse ETF may be based on the S&P 500 index. The ETF is designed to rise as the index falls in value.

Inverse ETFs carry many risks and are not suitable for risk-averse investors. This type of ETF is best suited for sophisticated, highly risk-tolerant investors who are comfortable with taking on the risks inherent to inverse ETFs.

Leveraged inverse ETFs use the same concept as leveraged products and aim to deliver a magnified return when the market is falling. For example, if the S&P has declined by 2%, a 2X-leveraged inverse ETF will deliver a 4% return to the investor excluding fees and commissions.

How long should you hold inverse ETFs? Inverse ETFs are intended for intraday trading — not longer. Although they can seem simple, inverse ETFs require considerable skill since they rebalance daily.

It's true that if a recession hits and the stock market goes down rapidly, an inverse ETF based on a broad index like the S&P 500 is likely to rise. However, there are a few reasons why adding an inverse ETF to your portfolio is still a bad idea.

Professional investors buy inverse ETFs to “take the other side” of a trade. If the S&P 500 is having a bad day and declines by 1%, for example, an investor who owns an inverse S&P 500 ETF could expect a gain of 1% on the session.

Advantages of Inverse ETFs

If you are bearish on a particular market, sector or industry, you simply buy shares in the corresponding ETF. To exit the position when you think the downturn has run its course, simply place an order to sell.

Inverse ETFs, however, make money when the price of those stocks goes down. By using derivatives, including futures contracts such as commodity futures, an inverse ETF allows you to bet on the decline of a market or index.

Leveraged and inverse ETFs (not ETNs) do not pay dividends based on the dividends of the index of the stocks or bonds they are tracking. But they nevertheless can still pay out dividends from time to time, sometimes even on a regular basis.

Can you owe money on inverse ETFs? ›

An investor can only lose as much as they paid for the ETF with inverse ETFs. The inverse ETF becomes worthless in a worst-case scenario, but at least you won't owe anyone money, as you might when you short an asset in a traditional sense.

Over the long-term, inverse ETFs with high levels of leverage, i.e., the funds that deliver three times the opposite returns, tend to converge to zero (Carver 2009 ). This also applies to the short ETFs with a lower leverage in cases of high volatility of the underlying index. ...

The largest Inverse ETF is the ProShares UltraPro Short QQQ SQQQ with $5.58B in assets.

Holding too many ETFs in your portfolio introduces inefficiencies that in the long term will have a detrimental impact on the risk/reward profile of your portfolio. For most personal investors, an optimal number of ETFs to hold would be 5 to 10 across asset classes, geographies, and other characteristics.

Availability and Scope of the ETF Rule

maintain their exchange listing may no longer rely on the ETF Rule and must satisfy individual redemption requests within seven days pursuant to Section 22(e) of the 1940 Act or liquidate if not listed on an exchange. See ETF Release at 61.

10. Broken ETF risk. Most of the time, ETFs work just like they're supposed to: happily tracking their indexes and trading close to net asset value. But sometimes, something in the ETF breaks, and prices can get way out of whack, especially in international markets.

You won't lose more money than you invest, even if you only invest in one company and it goes bankrupt and stops trading. This is because the value of a share will only drop to zero, the price of a stock will not go into the negative.

A trader can hold the majority of these ETFs including TQQQ, FAS, TNA, SPXL, ERX, SOXL, TECL, USLV, EDC, and YINN for 150-250 days before suffering a 5% underperformance although a few, like NUGT, JNUG, UGAZ, UWT, and LABU are more volatile and suffer a 5% underperformance in less than 130 days and, in the case of JNUG ...

In the first part of this article (Hedging with Single Inverse ETFs: Opportunities vs Risks), we noted that investing in inverse ETFs can be riskier relative to their non-inverse counterparts. Indeed, it has been well documented that holding these investments over longer horizons expose investors to serious losses.

TSLQ, which launched in July 2022, is a single-stock exchange-traded fund that seeks to produce the inverse daily performance of Tesla stock. Like other inverse ETFs, TSLQ attempts to deliver positive returns when its benchmark produces negative returns.

What is the inverse ETF of S&P 500? ›

Gold, silver and bonds are the classics that traditionally stay stable or rise when the markets crash. We'll look at gold and silver first. In theory, gold and silver hold their value over time. This makes them attractive when the stock market is volatile, and the increased demand drives the prices up.

Stock prices tend to fall in the middle of the month. So a trader might benefit from timing stock buys near a month's midpoint—the 10th to the 15th, for example. The best day to sell stocks would probably be within the five days around the turn of the month.

Since the job of most ETFs is to track an index, we can assess an ETF's efficiency by weighing the fee rate the fund charges against how well it “tracks”—or replicates the performance of—its index. ETFs that charge low fees and track their indexes tightly are highly efficient and do their job well.

"Middle of the day is generally best, and if there are international (European) securities in the ETF, trading in the morning will ensure you get prices closest to fair value," Nadig explains.

If you start investing early enough, a couple of ETFs could easily grow into a million-dollar investment portfolio.

Some exchange-traded funds, or ETFs, can provide a potential income stream that may offer more diversification than investing in just one stock. Whether you're reorganizing your portfolio for your golden years or just starting to research income-oriented funds, you might want to consider this investment type.

Index swaps, the derivatives used by leveraged and inverse funds to produce their daily returns, are always taxed at short-term capital gains rates.

For many retirees, dividend-paying stocks and ETFs provide income without a job. Often, they are for those who do not have time to monitor the market every second. They are suitable long-term investments since payouts are constant.

The IRS taxes dividends and interest payments from ETFs just like income from the underlying stocks or bonds, with the income being reported on your 1099 statement. Profits on ETFs sold at a gain are taxed like the underlying stocks or bonds as well.

What is the best dividend ETF? ›

Just as with individual securities, when you sell shares of a mutual fund or ETF (exchange-traded fund) for a profit, you'll owe taxes on that "realized gain." But you may also owe taxes if the fund realizes a gain by selling a security for more than the original purchase price—even if you haven't sold any shares.

Leveraged ETFs decay due to the compounding effect of daily returns, also known as "volatility drag." This means that the returns of the ETFs may not match the returns of the underlying asset over longer periods.

While that number depends on your budget and investment strategy, financial experts generally recommend keeping up to 10 ETFs in your portfolio. If your brokerage offers fractional shares, you may be able to put money into multiple ETFs even if you don't have a large sum of money to invest at the beginning.

However, 3x exchange-traded funds (ETFs) are especially risky because they utilize more leverage in an attempt to achieve higher returns. Leveraged ETFs may be useful for short-term trading purposes, but they have significant risks in the long run.

ETFs can provide an easy way to be diversified and as such, the investor may want to have 75% or more of the portfolio in ETFs." To that end, Conzo says a more sophisticated investor may have additional needs.

What is the 70 30 rule ETF? ›

A 70/30 portfolio is an investment portfolio where 70% of investment capital is allocated to stocks and 30% to fixed-income securities, primarily bonds.

No single asset can represent more than 10% of the fund's assets; holdings of more than 5% cannot in aggregate exceed 40% of the fund's assets. This is known as the "5/10/40" rule. There are certain exceptions for government issued securities and for index tracking funds.

ETFs are very safe and are an excellent option for long-term investments. According to experts, ETFs are not that volatile and show a slight change in their prices compared to stocks and indices because they are diversified and pooled investments of many investors.

Eric Balchunas, an ETF analyst at Bloomberg Intelligence, notes that during the past five years, 1,050 ETFs have launched. During the same period, more than 900 ETFs have folded. Their average lifespan is just 3.4 years.

Because of how they are constructed, inverse ETFs carry unique risks that investors should be aware of before participating in them. The principal risks associated with investing in inverse ETFs include compounding risk, derivative securities risk, correlation risk, and short sale exposure risk.

On the other hand, having too many ETFs can lead to over-diversification and excessive fees, as well as potential underperformance if the ETFs are not chosen carefully.

Over the long-term, inverse ETFs with high levels of leverage, i.e., the funds that deliver three times the opposite returns, tend to converge to zero (Carver 2009 ). This also applies to the short ETFs with a lower leverage in cases of high volatility of the underlying index. ...

The largest Inverse ETF is the ProShares UltraPro Short QQQ SQQQ with $6.00B in assets. In the last trailing year, the best-performing Inverse ETF was KOLD at 111.34%. The most recent ETF launched in the Inverse space was the Volatility Shares -1x Short VIX Mid-Term Futures Strategy ETF ZIVB on 04/19/23.

One common strategy is to close out positions that have losses before their one-year anniversary. You then keep positions that have gains for more than one year. This way, your gains receive long-term capital gains treatment, lowering your tax liability. Of course, this applies for stocks as well as ETFs.

Market risk

The single biggest risk in ETFs is market risk. Like a mutual fund or a closed-end fund, ETFs are only an investment vehicle—a wrapper for their underlying investment. So if you buy an S&P 500 ETF and the S&P 500 goes down 50%, nothing about how cheap, tax efficient, or transparent an ETF is will help you.

Can you lose more than your investment with inverse ETF? ›

Yes, you can lose more than you invest in ETFs. Usually, if you trade leverage ETFs, there is the probability that you trade on margin and lose more money than that you invested.