Direxion daily emerging markets bear 3x_ long run expected value is zero – direxion daily emerging markets bear 3x shares etf (nysearca_edz) _ seeking alpha

As we look forward, predicting short term moves in the market is extremely difficult (or impossible, according to some academics). Msci wiki But we do know that the MSCI EM Index is trading at an average (12 month forward consensus) P/E ratio of about 11, which translates to an earnings yield of about 9% (higher if cyclically adjusted). Msci world index chart This means that if we ignore growth and assume that valuation multiples stay constant, the annual return of the index would be in the very high single digits so long as the value created by the underlying companies ultimately accretes to shareholders.

The second (and likely more important) driver of returns for the Direxion ETF over longer periods of time is the methodology of its construction.

Msci world nr There are numerous articles in the academic literature (such as this) reviewing the tendency of leveraged ETFs to decay over time. Msci emerging markets index constituents I’ll go through a number of additional examples of this decay a little later on, but first let’s walk through the reasons why it occurs.

• Effectively short volatility / mean reversion: Since the ETF seeks to track the daily returns of the underlying index, it must rebalance on a daily basis. Msci developed markets index When the index goes down, the ETF must add short exposure to maintain its positioning, and vice versa when the index goes up. Msci world onvista In other words, the ETF routinely needs to “buy high and sell low.” The result is that in volatile, but non-trending markets, the ETF decays. Msci world zusammensetzung The fund’s prospectus provides an example that “this fund… would be expected to lose 31.3%… Msci world acwi if its Index provided no return over a one year period during which the Index experienced annualized volatility of 25%.”

• Magnified transactions costs: ETFs incur transactions costs when investors move in and out of the funds. Msci emerging markets index pakistan The impact of this can be magnified for leveraged ETFs like EDZ since a) a large portion of the underlying investors in these funds are short-term oriented, and b) the funds must rebalance daily based on market moves, as discussed above.

• Fund expenses: Though not unique to leveraged ETFs, fund expenses are another marginal drag on returns. Msci emerging markets value index Per the fund’s prospectus, its operating expense ratio is approximately 0.98%.

Below we can see a summary of annualized returns for the various equity-related Direxion 3x leveraged ETF pairs that have track records of at least 2 years. Msci developed Name

Although all of these ETFs are vulnerable to the sources of decay outlined above, in this article I highlight the Direxion Daily Emerging Markets Bear 3X ETF for a few important reasons:

• This ETF is easy to borrow (with a cost under 3% through some retail brokers), which makes it worthy of consideration as a longer term short for those knowledgeable in these products. Msci global However, a critical caveat is that the position would need to be sized prudently, given that there have been occasions when some of these ETFs have moved more than 100% over relatively short periods of time.

• Emerging market equities are an especially volatile asset class, which I expect to exacerbate the leverage trap given that these ETFs tend to underperform during periods of volatility, as discussed above.

• Equities tend to be more mean-reverting (compared to commodities, which often trend). Msci world consumer staples index As again reviewed above, these ETFs tend to decay most in mean-reverting environments.

• Emerging market equities are likely to have one of the highest long run expected returns among asset classes (though not necessarily the highest Sharpe) given their elevated earnings yield noted previously.