A new wave of single stock exchange traded funds is sweeping the ETF industry.
Until now, the ETF business has grown by providing investors with mostly plain-vanilla indices like the S&P 500 — along with more narrowly focused segments of the market like cybersecurity, clean energy, cloud computing, and other themed games.
But now the ETF market is trying to expand by offering increased bets on individual stocks.
Direxion and GraniteShares plan to launch more than two dozen leveraged and inverse single-stock ETFs this year — and both have current proposals before the Securities and Exchange Commission.
In February, Direxion applied for 21 new ETFs, each offering exposure to the daily inverse or leveraged returns of well-known names such as Meta Platforms, parent company of Facebook, Nvidia, Netflix, Apple, Microsoft, Amazon and Alphabet. This filing follows AXS Investments’ earlier foray into leveraged funds.
Such products aim to provide enhanced opportunities to go long or short on individual names and follow the typical leveraged ETF model, which operates via a daily reset mechanism.
A daily reset suggests extremely short time horizons – as funds are leveraged or de-leveraged anew every day. As Dave Mazza, Direxion’s head of product, told CNBC’s ETF Edge this week, such ETFs are designed for traders rather than investors.
“If someone isn’t able to monitor their portfolio to make a buy, sell, or hold decision on a daily basis, these aren’t for them,” he said. “But it’s really a natural extension of the ETF marketplace… And this is a solution for the trading crowd.”
GraniteShares has also applied for a number of leveraged and inverse ETFs in the US, but the company isn’t new to the single-stock game. It already offers a range of more than 100 similar products that have been traded in Europe for three years, allowing traders to use three times long or short names such as Alphabet, Amazon, Apple, Facebook, Microsoft and Nvidia.
Will Rhind, CEO of GraniteShares, said such products have had a lot of appeal overseas.
“I have to say it’s very popular with investors,” he said. “There just aren’t many ways to express short bets or long positions on individual stocks as conveniently as an ETF package. And that’s what these products do for people.”
Rhind says the adoption rate is particularly high for a very specific breed of savvy investor — someone who trades proactively and likes to take risks, especially when faced with amplified gains and losses.
But with calls for more disclosure, Wall Street watchdogs like the Financial Industry Regulatory Authority and the SEC have cracked down on overly complex products.
SEC Chairman Gary Gensler has previously raised concerns about leveraged and inverse exchange-traded products — he said they could pose risks for even experienced investors and “potentially create system-wide risk by acting in unanticipated ways” — especially when markets are volatile are or are under stress.
Regulatory and Trade Risks
So what are the chances that the SEC will give these products the green light?
It’s hard to say, but Rhind notes that the structure of these products has been in place for many years — and so far, investors have proven very comfortable with how it works.
Still, Dave Nadig, financial futurist at ETF Trends, says it’s important to recognize the potential risks of contagion from trading such leveraged products.
“Imagine there were six, seven, eight different ETFs, all tied to Amazon, for example,” Nadig said. “In a world where we have six or seven of these levers, does the Robinhood investor understand, or inverse plays on every major security in the market? That’s where it gets a little confusing.”
Mazza agreed there was a risk, but reiterated that such ETFs shouldn’t be treated as buy-and-hold investments. He also said he doesn’t see any systemic risk posed by these products in the broader market.
“The ETF structure has proven resilient,” he said. “But at the end of the day, we’re really committed to ensuring traders understand how these work, particularly in relation to this daily reset mechanism.”
He noted that the implied holding periods for these products are extremely short, “so, for the most part, people are using them appropriately.”
Rhind added that the ETFs he plans to launch offer a safer way to gain leverage than many traditional short selling methods – because traders will never lose more than their initial investment.
This, of course, comes at the expense of the higher fees required to continuously rebalance these portfolios.
Follow the streams
So what exactly are traders buying in these turbulent market times these days?
Mazza mentioned three different mentalities: risk-on, risk-off, and rotation.
- Willingness to take risks: Among Direxion’s most popular products is the Direxion Daily Semiconductor Bull 3X Shares (ticker: SOXL) — a basket of chip stocks that has amassed more than $3 billion in assets under management. Mazza said inflows into the semiconductor space have been strong, particularly on days when the market is down.
- Risk Free: Rather than selling individual positions in technology or financials, traders turn to inverse ETFs to provide daily hedging when they believe event risk exists, particularly during earnings season.
- Rotation: With crude oil prices soaring, there is a lot of money flowing into oil and gas, particularly the Direxion Daily S&P Oil & Gas Exploration and Production Bull 2X Shares ETF (ticker: GUSH), a leveraged instrument in the energy sector.
Nadig stressed the importance of brokers like Charles Schwab and Fidelity emphasizing disclosure to ensure investors really know what they’re doing, which he says is inevitable as more complex products enter the market.
The problem, of course, is that companies can offer a variety of disclosures, but there’s no guarantee that investors will pay attention.
The bottom line, Nadig says, are speculative vehicles used for short-term, event-driven trading and shouldn’t be viewed as portfolio building blocks.
“My concern is that these are very, very sharp tools,” he said. “And when people put their hands in the drawer, they don’t always look as closely as they should.”
The SEC has approximately 75 days to respond to these proposals
https://www.cnbc.com/2022/04/22/single-stock-etfs-amplifying-bets-on-names-like-amazon-apple-tesla.html Stepping up bets on names like Amazon, Apple, Tesla