The dangers of leveraged ETPs

Tom Eckett

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The forced closure of WisdomTree’s tripled-leveraged oil ETPs last week has brought the dangers of leveraged investing to the surface once again.

Last Monday, the WisdomTree WTI Crude Oil 3x Daily Leveraged (3OIL) and the WisdomTree Brent Crude Oil 3x Daily Leveraged (3BRL) ETPs stopped trading after they triggered a clause in their rules following the dramatic fall in oil prices over the weekend.

Both leveraged ETPs triggered a rule in their prospectuses which stated if they fall more than 20% in a trading day, the swap provider has the option to close the swap position, effectively suspending trading on the products.

With an overnight 33% fall in oil prices, the ETPs, being triple leveraged, opened 99% down, leading to the swap provider to issue an official termination notice.

This dramatic swing is a perfect example of the dangers of investing in these niche products. Another came in February 2018 when Credit Suisse shut trading on an inverse VIX ETN following a 93% overnight fall.

These types of products should be nowhere near investors with any sort of long-term investment horizon and to see 3OIL included on Hargreaves Lansdown’s shopping list is a crying shame for the fund supermarket.

The WisdomTree short and leveraged ETP range is extensive. The suite consists of around 128 products including currency hedges with $1.3bn assets under management (AUM).

A quick glance shows how volatile these products can be with daily swings of over 20% being a regular part of the short and leveraged landscape.

While these products can be a useful trading tool, it is crucial investors understand the risks before going anywhere near them.

One important factor investors fail to consider is the fact leveraged ETPs rebalance daily meaning they create a compounding effect that could result in differences with the unleveraged ETF returns. Leveraged products do not simply produce the annual returns of the index it tracks.

This combined with the high fees leveraged products charge – 3OIL had an ongoing charges figure (OCF) of 0.99% – shows why investors should look elsewhere when looking for riskier parts of the market.

The closures highlight why the industry needs to stress the differences between UCITS ETFs and the rest of the ETP landscape because, to the untrained eye, products like this can paint a negative picture of what is a fantastic investment vehicle.

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