6 Tips On How To Trade Leveraged ETFs

Leveraged ETFs Usually Have Built-in 2x or 3x Leverage Which Adds Risk & Reward. So Read Our 6 Tips For Trading 2x & 3X Leveraged ETFs

Leveraged or Bull ETFs are exchange-traded funds that enable you to bet with the direction of the market, sector, or index. Leveraged ETFs enable you to magnify your profits or losses using leverage without the complexity of Options contracts.

Leveraged ETFs usually have built-in leverage of 2x or 3x leverage.  If you buy a 3x Leveraged ETF on any market day, and the index moves up 2%, you can expect a 6% profit. Conversely, if the market moved down 2% on that day, the 3x leveraged ETF would ensure you incur a loss of 6%.

The Best Leveraged ETFs by Assets, Expenses & Volume
The Best Leveraged ETFs by Assets, Expenses & Volume

1. Understand Leveraged ETF Decay

All Leveraged ETFs have warnings that they should only be traded on a daily basis. Of course, you can hold them for longer than one day, but you will see mismatches in the return of the short ETF vs. the actual index over time. This is known as leveraged ETF decay.

Leveraged ETFs Do Not Match the Index Performance Because:

  1. The underlying contracts supporting the leveraged ETFs need to be rebalanced at the end of the trading day; this causes slippage.
  2. The effect of the volatility of an index will affect compounding, which affects the inverse ETF. For more information, see this Leveraged ETF FAQ.

2. Leveraged ETFs Should Have Good Liquidity & Volume

It is important that if you purchase a Leveraged/Bull ETF that you can actually sell it when you want to, for a price that is close to your target price. There are 124 Leveraged ETFs on the US exchanges, and the average 10-day trading volume is 1 million shares per day. You will want to choose ETFs that average at least 500,000 traded per day.

3. Choose ETFs With Higher Assets Under Management

The median amount of Net Assets under management for leveraged and inverse ETFs is $50 million. It is wise to only utilize ETFs with more than $100 million in assets managed; this helps with liquidity and the fund’s stability.

4. ETFs Should Have Low Expenses

Any Inverse or Leveraged ETF you choose to trade should have lower expense ratios. Of the 244 ETFs in this study, the average expense ratio is 0.96%, but the range of expenses spanned from 1.65% to 0.3%. The largest most liquid funds have an expense ratio between 0.95% and 1.08%, which is acceptable.

5. Use a Commission Free Broker to Minimize Costs

When purchasing ETFs, you should select a broker that enables you to buy and sell ETFs with $0 zero commissions. Firstrade has over 2,200 commission-free ETFs, the largest in the industry. Read the Firstrade Review or visit Firstrade.

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