Companies have been promoting increasingly intricate exchange-traded funds (ETFs), including leveraged and inverse options, promising large gains for individual investors. However, with recent market fluctuations, these investment products might carry heightened risks.
Mike Khouw, co-founder and chief strategist of Openinterest.Pro, cautions that during periods of market downturns or erratic swings, these leveraged ETFs may underperform relative to the assets they are designed to track. Speaking on CNBC's 'ETF Edge', Khouw stated that, 'Leverage is a very appealing thing when the only things you've noticed over the last couple of years is that prices are rising. But having leverage is a double-edged sword.'
The appeal of leverage comes with added layers of risk. Khouw points out that many lightly leveraged ETFs employ tools like total return swaps or options to create the promised additional exposure. To sustain this leverage, fund managers must frequently adjust their positions, which becomes challenging in volatile markets.
Khouw, whose company specializes in options-focused research, remarked that the rapid increase in weekly and even daily options has made the financial market so time-sensitive and multifaceted that most retail investors might struggle to manage these trades independently. He believes that while products allowing other professionals to manage some of the complexities offer accessibility, they also reveal a gap in the investors' understanding of both options and the products themselves as they rapidly evolve.
Nate Geraci, president of NovaDius Wealth Management, identifies two primary trends driving the expansion of inverse and leveraged ETF products. First, he notices a shift in retail investor attitudes as they pursue products boasting substantial, even 'astronomical,' returns, often without fully comprehending the potential risks involved.