Recently in Leveraged & Inverse ETFs Category

February 25, 2014

Berthel Fisher Fined $775,000 for the Inappropriate Sale of REITs and ETFs

Thumbnail image for violators.jpgYesterday, Berthel Fisher & Co. Financial Services, Inc. entered into a settlement with the Financial Industry Regulatory Authority (FINRA) and agreed to pay a $775,000 fine stemming from sale of unsuitable investments, including non-traded REITs as well as leveraged and inverse ETFs. According to FINRA's BrokerCheck system, Berthel Fisher has been the subject of multiple enforcement actions initiated by FINRA and state securities administrators.

Regulators Stepping Up Supervision of Alternative Investments

Berthel Fisher is the latest of several brokerage firms to get swept up in FINRA's focus on the brokerage industry's sale of risky alternative investments to financial consumers and the failure to properly enforce suitability standards for those investments. The risks associated with investing in non-traded REITs and leveraged/inverse ETFs have been extensively covered in previous blog posts. For more information, see below:

Investors Beware of Non-Listed REITs

Are Leverages and Inverse ETFs Suitable for You?

What Are Leveraged and Inverse ETFs?

January 10, 2014

A Handful of Stifel, Nicholas & Company Customers to Recover Losses for Unsuitable Sales of Leveraged and Inverse ETFs

Two related brokerage firms--Stifel, Nicholas & Company, Incorporated and Century Securities Associates, Inc.--entered into a settlement with the Financial Industry Regulatory Authority (FINRA) over alleged misconduct in the sales of leveraged and inverse exchange traded funds (ETFs). As part of the settlement, Stifel and Century agreed to pay fines totaling $550,000 and to make restitution totaling $474,613 to a select group of 65 customers who were sold ETFs between January 1, 2009 and June 1, 2013. Presumably, the group of customers chosen to receive redemption consists of customers who had selected a conservative investment objective and had held the ETFs for an unreasonable period of time. In its written findings, FINRA provided a brief description of two customers that are entitled to redemption:

  • A Stifel customer with a primary investment objective of "income" who invested in a nontraditional ETF and held if for 18 months that lost $41,000.

  • A Century customer with a primary investment objective of "income" who invested in a nontraditional ETF and held if for 2 ½ years that lost $13,600.

More Than Just 65 Customers May Have Been Damaged

It isn't clear whether the group of customers entitled to automatic redemption under the settlement was limited to those who had "income" selected as their primary investment objective. What about other risk averse investors whose stated objective reflected something that was a notch or two above income? Stifel currently offers four investment objectives and six categories of risk tolerance:

Stifel Investment Objectives

  1. Income

  2. Growth & Income

  3. Growth

  4. Speculation/Active Trading/Complex Strategies

Stifel Risk Tolerance Categories
  1. Conservative

  2. Moderately Conservative

  3. Moderate

  4. Moderate Growth

  5. Moderately Aggressive

  6. Aggressive

According to FINRA, during the period in question, Stifel and Century collectively sold over $670 million worth of nontraditional ETFs to their customers. Leveraged and inverse ETFs are exceptionally risky investment products that are unsuitable for most investors who have no desire to engage in an aggressive and speculative trading strategy. Click here for more blog postings about the risks and pitfalls of investing in leveraged and inverse ETFs. My guess is that the number of affected investors goes well beyond the 65 "conservative investors" included in the Stifel and Century's settlement with FINRA. Investors left out of the settlement always have the option of pursuing an individual claim for damages through FINRA's securities arbitration program. For more information about securities arbitration, click here.

December 28, 2012

Worst Investments of 2012

instability.jpgBelow is a list of the worst investments in 2012 according to Bloomberg Businessweek.

Worst Exchange Traded Fund (ETF)

ProShares VIX Short-Term Futures ETF (-79%).

As we've repeatedly stated in this blog, leveraged and inverse ETFs are unsuitable investment vehicles for most individual investors. [Read more.]


Worst Equity Mutual Fund
Federated Prudent Bear Fund (-17%)

Worst Initial Public Offering
Facebook (-30%)

Worst U.S. Large-Cap Stock
Hewlett Packard (-43%)

September 14, 2012

ProShares ETF Class Action Dismissed: Aggrieved Investors Should Consider Their Options

Thumbnail image for Thumbnail image for toxic.jpgEarlier this month, a New York judge dismissed an investor class action lawsuit alleging that ProShares Advisors LLC and SEI Investments Distribution Co failed to fully disclose the risks of investing in leveraged exchange traded funds ("ETFs") such as the ProShares SRS Fund. In dismissing the action, U.S. District Court Judge John G. Koeltl wrote that ProShares' sales materials adequately disclosed the risks involved. The court's ruling shows how tough it can be for aggrieved investors to directly sue fund companies for misleading marketing.

The message for do-it-yourself investors is caveat emptor (buyer beware). However, investors who purchased leveraged or inverse ETFs through a financial advisor may want to consider pursuing a securities arbitration claim. See related blog post: Securities Arbitration vs. Class Actions: Which is More Financially Rewarding? Our securities law firm has helped several investors recover losses from financial advisors that inappropriately recommendeded leveraged and inverse ETFs such as those offered by ProShares and Direxion. Please read the blog postings below for more information.

Related blog posts:

What Are Leveraged and Inverse ETFs?

Are Leveraged and Inverse ETFs Suitable for You?

May 27, 2011

Toxic ETFs

Leveraged and inverse exchange traded funds (ETFs) are prominently featured in a list of the "15 Most Outrageous ETFs" recently published by Forbe's Magazine.

Click here for more blog postings about leveraged and inverse ETFs.

Thumbnail image for toxic.jpg1. Direxion Daily Semiconductor Bull 3x Shares
Ticker: SOXL
Status: Active

2. ProShares Ultra KBW Regional Banking
Ticker: KRU
Status: Active

3. Market Vectors Mongolia
Ticker: N/A
Status: Slated for launch in 2011.

4. HealthShares Dermatology and Wound Care
Ticker: N/A
Status: Shuttered in 2008.

5. PowerShares Dynamic Brand Name Products Portfolio
Ticker: N/A
Status: Never launched.

6. Direxion Daily Agribusiness Bear 3x Shares
Ticker: COWS
Status: Active

7. HealthShares Drug Discovery Tools
Ticker: N/A
Status: Shuttered in 2008.

8. PowerShares Autonomic Allocation Research Affiliates Portfolio
Ticker: N/A
Status: Never launched.

9. iShares S&P North American Technology-Multimedia Networking Index Fund
Ticker: IGN
Status: Active

10. PowerShares Lux NanoTech
Ticker: PXN
Status: Active

11. Global X Uranium
Ticker: URA
Status: Active

12. IndexIQ IQ ARB Merger Arbitrage
Ticker: MNA
Status: Active

13. Claymore/Morningstar Manufacturing Super Sector Index
Ticker: N/A
Status: Shuttered in 2009.

14. Direxion Daily 2-Year Treasury Bear 3x Shares
Ticker: N/A
Status: Shuttered in 2010

15. FocusShares ISE Homebuilders Index
Ticker: N/A
Status: Shuttered in 2008.

January 7, 2011

Investors Have Suffered Significant Losses In These Leveraged Funds

dollar spiral.jpgOne of the students in my securities law class recently wrote a series of blog postings discussing the pitfalls of investing in leveraged and inverse mutual funds and ETFs. To emphasize just how risky and unsuitable these types of investments can be, here is a list of some of the worst performing leveraged and inverse funds:

Year-to-Date (YTD) Returns as of 11/30/2010:

  • ProFunds UltraShort Small-Cap (UCPIX) -42.54%
  • Rydex Inverse Russell 2000 2x Strategy A (RYIUX) -40.99%
  • Direxion Monthly Small Cap Bear (DXRSX) -40.54%
  • ProFunds Ultra Short Mid-Cap (UIPIX) -39.37%
  • Direxion Monthly NASDAQ 100 Bear 2x (DXQSX) -36.08%
The performance of these funds demonstrate how betting heavily against equities can be hazardous to your wealth. During this same period of time, equity markets were on the rise. For example, the S&P 500 index was up more than 5%.
December 4, 2010

Are Leveraged and Inverse ETFs Suitable for You? (Part 4 of 4)

Thumbnail image for money_trap.jpgAuthor: Joanna LiCalsi (Law Student, Investor Justice Clinic, University of San Francisco School of Law)

So who should invest in leveraged and inverse mutual funds and exchange traded funds (ETFs)? If anyone at all, it might be the highly knowledgeable and experienced day-trader with loads of money to burn. Fund companies such as Direxion and ProShares state on their websites that leveraged ETFs are not suitable investments unless you "understand the risks... [and] consequences" associated with them and are willing to actively manage your portfolio. On the other hand, the companies say they are inappropriate if you "don't understand" the risks and consequences, or if you're a long-term investor who doesn't plan on actively monitoring your portfolio. I would call this kind of advice lacking at best. While they make it clear that these funds inhabit some risk, they're still salesmen (don't ever forget it); and the main gist seems to be, "there's risk involved, but if you understand the risks, then go for it!" Understanding the risk is just the first step. You have to look at your own bigger investment picture to make an informed choice; think about your goals, needs, portfolio composition, and timeline.

I read somewhere that fewer than 1% of all investors should be involved with these risky, controversial funds. If you're reading this blog, you're probably a responsible, smart, retail investor with long-term goals and little to no risk tolerance. Basically, you're in the 99% of all other investors and they're probably not for you. But if you insist on dipping your toes in the water, as always, please be sure to consult a trusted financial adviser and always make sure you check out (and understand) the prospectus before you invest.

See related blog postings:

If It Looks Too Good to Be True, It's Probably a Leveraged (or Inverse) ETF

What Are Leveraged and Inverse ETFs?

Securities Regulators Step Up Oversight of Leveraged and Inverse ETFs

December 3, 2010

Securities Regulators Step Up Oversight of Leveraged and Inverse ETFs (Part 3 of 4)

Thumbnail image for Thumbnail image for money_trap.jpgAuthor: Joanna LiCalsi (Law Student, Investor Justice Clinic, University of San Francisco School of Law)

In June 2009, the Financial Industry Regulatory Authority (FINRA) responded to the explosion in popularity of leveraged and inverse mutual funds and exchange traded funds (ETFs) and the detrimental losses they've caused to many confused investors, by issuing a Regulatory Notice to brokers and firms. The telling notice says that these funds are "typically unsuitable for retail investors," and then proceeds to remind brokers of their duties and obligations to customers regarding ethical sales practices and recommendation suitability. Generally, a concern over a lack of risk disclosure and mitigation were at the heart of the alert. FINRA even reminds firms that close broker supervision is necessary to ensure that this warning is heeded. Two months later, the SEC and FINRA released a joint Investor Alert (only the second time they've done that) about leveraged and inverse ETFs and the confusion pervasive amongst investors. The alert focuses on the high risk and extreme short-term nature of these funds. Essentially, they're telling investors to avoid them like the plague.

See related blog postings:

If It Looks Too Good to Be True, It's Probably a Leveraged (or Inverse) ETF

What Are Leveraged and Inverse ETFs?

Are Leveraged and Inverse ETFs Suitable for You?

December 2, 2010

What Are Leveraged and Inverse ETFs? (Part 2 of 4)

Thumbnail image for Thumbnail image for Thumbnail image for money_trap.jpgAuthor: Joanna LiCalsi (Law Student, Investor Justice Clinic, University of San Francisco School of Law)

To begin with, a very basic understanding of what leveraged mutual funds and exchange traded funds (ETFs) are and how they work is crucial to understanding their extreme risk. First, an issuer decides which index to track - this could be broad like the S&P 500 or more specific, like commodities or currencies. The goal is to outperform the indexes by doubling, and even tripling returns (depending on the fund - some names include "2x" and "3x" to denote the specific goal). Marketed as complex and sophisticated instruments for the common investor, leveraged ETFs are attempting to magnify daily market moves through the use of a massive amount of leverage (aka debt) and a strategy, which includes short sales, swaps, derivatives, options, and futures (many compare the strategy to trading on margin). Inverse ETFs work the same way, but in reverse, by betting on down-markets in an attempt to get multiplied inverse returns. Using leverage magnifies gains, but don't forget - losses are magnified too!

In order to achieve the phenomenal, promised returns for leveraged ETFs, managers must vigilantly watch over the funds, maintaining equal proportions of debt and equity at all times. For example, if the market drops, a manager will need to sell many shares in order to reduce the debt level and hold the necessary ratio. This applies to a bull market in reverse (ie. if the market goes up, shares must be bought to get back to the correct amount of leverage). This incredible amount of turnover through constant buying and selling increases exposure to the market, and therefore, volatility.

Let's take a step back - remember, the goal here is doubling the daily return, not annual, quarterly, or even weekly. This means that daily returns are compounded (or reset) at the close of each trading day. The ultimate effect of this strategy is that in the midst of daily debt/equity rebalancing within the fund, any losses are locked in and total asset levels decline. This game of musical chairs with portfolio holdings makes it harder to recover when the market rises again; these effects are amplified in times of market volatility. Financial experts have called this the "Constant Leverage Trap," and it can be responsible for negative returns over the long-term even if the market has been on an overall upswing due to the creation of multiple negative returns. So, buy-and-hold investors, beware: the longer they're held, the less correlation there is between the projected fund returns and the actual index performance.

Because leveraged ETFs may be bought and sold like stock, some sell themselves by claiming to offer greater market exposure with less capital requirements. But you'll find yourself paying in other ways. The incessant juggling of holdings (to maintain proper leverage ratios) results in higher management and commission fees, transaction costs, and short-term capital gains (a red flag for tax inefficiency).

There is no way to overemphasize this point: Leveraged ETFs are absolutely inappropriate for intermediate and long-term investors. Some financial experts say they're best suited for market-savvy day-traders, others say only financial professionals should dabble in these highly risky securities, and yet others contend that this breed of investment is best avoided by everyone. In fact, many professional brokers won't go near them anymore, with several major brokerage firms ending their sales.

See related blog postings:

If It Looks Too Good to Be True, It's Probably a Leveraged (or Inverse) ETF

Securities Regulators Step Up Oversight of Leveraged and Inverse ETFs

Are Leveraged and Inverse ETFs Suitable for You?

December 1, 2010

If It Looks Too Good to Be True, It's Probably a Leveraged (or Inverse) ETF (Part 1 of 4)

money_trap.jpgAuthor: Joanna LiCalsi (Law Student, Investor Justice Clinic, University of San Francisco School of Law)

Just like everyone else, investors may find themselves caught up in trends - especially when it looks like a lot of money can be made relatively easily. Leveraged and inverse mutual funds and exchange-traded funds (ETFs) are such trends, both developed and exploding in popularity only over the past few years. Some big name fund companies in this line of investments are Rydex, ProShares (sometimes traded as ProFunds), Direxion, and SGI. They are sold as either ETFs or mutual funds with promising names, which usually include words like "growth," "income," and "preferred." And, as is the case with leveraged ETFs, these funds assure investors that not only will they outperform any given index, but their returns will be double or triple that of the underlying index.

Inverse ETFs are just what the name implies - they seek to deliver the inverse (or opposite) of the tracked index. This is basically betting against the market and on declines. All of this sound great, right?!?! That's exactly why so many investors (and retirement funds) have fallen victim to them.

See related blog postings:

What Are Leveraged and Inverse ETFs?

Securities Regulators Step Up Oversight of Leverages and Inverse ETFs

Are Leveraged and Inverse ETFs Suitable for You?