If you went into this COVID crisis without taking the stock risk warnings SmartStops was alerting you of in late February 2020, then you may unfortunately have fallen into the Buy, Hold & Pray model. So now with a rebound in April, you begin to wonder should I just hang on as the market will come back? And what shape will this recovery take?
You will find all kinds of opinions on that with the overriding conclusion being that it won’t be a V-Recovery. The economic impacts will far outlast the virus. The question remains though where will the markets go from here after a bounceback from the severe decline. And given that they can go lower and tend to in these bearish aspects of a “hurt” economy, we hope to educate you about the methods you can still take to protect further downside.
You have a few choices in methods of how to best hedge. It is important that you understand the workings of each and the risks involved and how they work. So some good article resources for you are also listed below.
One can learn to hedge with either Options or ETFs. The former being much more complicated then the latter and also requires you to pick expiration periods.
Options – unfortunately options can be a complicated subject matter to learn quickly. Plus you have to determine your time periods (expiration dates), strike prices, pay attention to premiums and learn about the greeks (Delta, Theta etc.). We do plan to help further educate you on best practices so stay-tuned for that.
ETFs, ETNs: Here’s a list of ones to to learn about. Be careful about using multiple inverse ones. Will add a link to this about those dangers. Plus, there are others out there too that aren’t Inverse, like TAIL from Cambria investments,and Dorsey-Wright’s DWSH, both well-known industry pundits.
ETFs to help manage your Downside
First we highlight some ETFs that could be used in a bear market. Each applies an interesting or unique methodology to protect investors, potentially shielding at least some part of the portfolio against continued bearishness:
Cambria Tail Risk ETF (TAIL)
This fund seeks to mitigate significant downside market risk as it invests in a portfolio of “out of the money” put options purchased on the U.S. stock market. The TAIL strategy offers the potential advantage of buying more puts when volatility is low and fewer puts when volatility is high. While a portion of the fund’s assets will be invested in the basket of long put option premiums, the majority of fund assets will be invested in intermediate term US Treasuries.
AdvisorShares Dorsey Wright Short ETF (DWSH)
This ETF adds alpha to an investment portfolio, especially during a bear market. DWSH is an actively managed ETF that short sells U.S. large-cap securities with the highest relative weakness within an investment universe primarily comprising large-capitalization U.S.-traded equities. It holds 102 stocks in its basket and charges a higher annual fee of 3.07% (vs. ~1% for many).
Good article on DWSH from this SeekingAlpha author, here.
AGFiQ US Market Neutral Anti-Beta Fund (BTAL)
The fund has a potential to generate positive returns regardless of the direction of the stock market as long as low beta stocks outperform high beta stocks. It invests in low-beta securities and at the same time shorts high-beta stocks of approximately equal dollar amounts within each sector. It seeks to deliver the spread return between low and high beta stocks. This can easily be done by tracking Dow Jones U.S. Thematic Market Neutral Anti-Beta Index.
AGFiQ US Market Neutral Momentum Fund (MOM)
This ETF provides exposure to the “momentum” factor by investing long in U.S. equities that have had above average total returns and shorting those securities that have had below average total returns. It follows the Dow Jones U.S. Thematic Market Neutral Momentum Index, charging investors 2.62%.
Direxion Flight to Safety Strategy ETF (FLYT)
This ETF offers portfolio risk mitigation from equity market drawdowns while also providing long-term appreciation potential. By combining long-term U.S. treasury bonds, utility stocks, and gold bullion, it may act as a diversified ballast for portfolios while also acting as a source of uncorrelated returns. Take note though of its low liquidity in # of shares traded daily.
AdvisorShares Ranger Equity Bear ETF (HDGE)
The investment objective is capital appreciation through short sales of domestically traded equity securities. It implements a bottom-up, fundamental, research driven security selection process. In selecting short positions, the Fund seeks to identify securities with low earnings quality or aggressive accounting which may be intended on the part of company management to mask operational deterioration and bolster the reported earnings per share over a short time period. In addition, the Portfolio Manager seeks to identify earnings driven events that may act as a catalyst to the price decline of a security, such as downwards earnings revisions or reduced forward guidance.
ProShares Long Online/Short Stores ETF (CLIX)
This fund seeks to benefit from both outperforming ONLINE and underperforming PHYSICAL retailers through the long/short strategy. It combines the 100% long position in retailers included in the ProShares Online Retail Index (i.e AMZN, BABA, GRUB, EBAY etc.) through other non-store channels- and then shorts positions in the “bricks and mortar” retailers included in the Solactive-ProShares Bricks and Mortar Retail Store Index. The fund is non-diversified.The approach reduces equity market exposure and results in less volatility than long-only equity strategies. Holds long positions in 24 stocks and short positions in 48 stocks.
ProShares Decline of the Retail Store ETF (EMTY)This ProShares ETF seeks a return that is -1x the return of the index (target) for a single day, as measured from one NAV calculation to the next. EMTY seeks capital appreciation from the decline of bricks-and-mortar retailers through short exposure (-1x) to the Solactive-ProShares Bricks and Mortar Retail Store Index.
EMTY is the first ETF specifically designed to benefit from the decline of bricks-and-mortar retailers.
Physical retailers are under immense pressure. E-commerce is threatening to take over retail as consumer habits change, shopping moves online, and physical stores struggle to remain viable. With this disruption comes opportunity.
The Solactive-ProShares Bricks and Mortar Retail Store Index is the first comprehensive, public securities index composed solely of traditional retailers, and is positioned to potentially become an industry standard for measuring the health of bricks and mortar retailers.
You can see performance of the above and others as of 3/23/20 at this Forbes article.
Short Index & Sector ETFs
Inverse ETFs allow investors to make money when the market or the underlying index declines, but without having to sell anything short.As a result, Inverse ETFs that negatively track stock market indexes are popular options during a market crash or prolonged bear market. To achieve this inverse ETFs may use derivative securities, such as swap agreements, forwards, futures contracts and options. Inverse ETFs are designed for speculative traders and investors seeking tactical day trades against their respective underlying indexes. Learn more here.
NASDAQ (and FANG only)
ProShares Short QQQ (PSQ) – makes a straight bet against the extremely popular ETF QQQ by providing inverse exposure to the Nasdaq-100, a 100-company index of firms listed on the tech-heavy NASDAQ that excludes financial firms. PSQ uses a combination of swaps on the Nasdaq-1X ETF is an inverse equities fund tracking the S&P 500 Index.
Proshares UltraShort QQQ Bear 2x ETF (QID) -this s a more aggressive version of its sister fund PSQ. Both funds track the Nasdaq 100—a 100-company index of firms listed on the tech-heavy Nasdaq that excludes financial firms—but QID provides -2x exposure compared to PSQ’s -1x. To do so, QID uses a combination of futures and swaps on QQQ and the Nasdaq-100 Index swaps. As with most inverse and leveraged products, QID is designed to provide its stated inverse exposure on a daily basis, not as a long-term inverse bet against the index. Anyone holding the fund for longer than a day will be exposed to the effects of compounding on returns, and will—especially in volatile markets—be unlikely to realize the stated exposure over extended periods of time
ProShares UltraPro Short QQQ (SQQQ) – is a 3x leveraged inverse ETF that tracks the Nasdaq 100, meaning it looks to return the exact results of the Nasdaq 100 index times three as like QID. The SQQQ is meant to be held intraday and is not a long-term investment, where expenses and decay will quickly eat into returns
MicroSectors FANG+ Index -Inverse Leveraged ETN (GNAF) -This ETN offers inverse exposure to an index of “FAANG” companies (Facebook, Apple, Amazon, Netflix, and Alphabet [formerly Google]), as well as other companies that exhibit similar characteristics. Presumably, the index will always include these five companies; an index committee is responsible for selecting the additional names. Eligible stocks must be listed on a US exchange (ADRs are acceptable), classified in the technology or consumer discretionary sectors, and exhibit similar traits to other technology and internet companies. At least ten stocks must be included in the index—the number of constituents when the note launched—so investors can expect a high level of concentration. All holdings are equally weighted. As a geared product with daily resets, GNAF is designed as a short-term trading tool and not a long-term investment vehicle. Long-term returns could materially differ from those of the underlying index due to daily compounding. Although GNAF’s fee may seem high, trading costs should be the greater concern for short-term position.
MicroSectors FANG+ Index -2x Inverse Leveraged ETN (FNGZ) – same as above by 2x inverse exposure. FNGZ is designed as a short-term trading tool and not a long-term investment vehicle. Long-term returns could materially differ from those of the underlying index due to daily compounding.
MicroSectors FANG+ Index -3X Inverse Leveraged ETN (FNGD) -same as above but 3x inverse exposure. FNGD is designed as a short-term trading tool and not a long-term investment vehicle. Long-term returns could materially differ from those of the underlying index due to daily compounding.
Direxion Daily Technology Bear 3X Shares (TECS) – TECS offers investors a means of playing out their bearish bets on the technology sector. The fund provides -3x exposure to the S&P Technology Select Sector Index—a market-cap-weighted index of US tech companies selected from the S&P 500. TECS tracks the exact same index as XLK—the Technology Select Sector SPDR ETF. That makes it a narrow bet against the highly concentrated tech sector, with Microsoft, Apple, and Alphabet comprising a huge fraction of the index. Unlike XLK, TECS is designed to be a short-term trading vehicle—not a long-term investment. TECS rebalances its exposure on a daily basis. As a result, the fund’s long-term returns are difficult to predict due to compounding and path dependency. As a result, most traders will be willing to overlook the fund’s steep fee.
Direxion Daily S&P 500 Bear 1x ETF (SPDN) – an inverse equities fund tracking the S&P 500 Index. This multi-cap fund is relatively equally weighted and is designed to provide 1x inverse exposure to one of the most popular indexes among investors. Holding it for a period longer than that will introduce the effects of compounding, even if this is less pronounced than in a leveraged ETF product. As such, SPDN is inherently a short-term tactical play.
ProShares Short S&P 500 (SH): Inversely tracks the S&P 500 Index- Using the S&P 500 as its benchmark, SH aims to profit by as much as the benchmark index declines by investing in derivatives, that may include futures contracts, swaps, and stock options. The fund focuses on the behavior of large-cap stocks but also watches real estate investment trusts (REITS). The top holdings are Microsoft Corp. (MSFT), Apple Inc. (AAPL), and Amazon.com Inc. (AMZN)
ProShares UltraShort S&P500 2x ETF (SDS) is leveraged to produce returns that are 2x the inverse daily returns of the S&P500. Due to the compounding of daily returns, holding periods of greater than one day can result in returns that are significantly different than the target return and ProShares’ returns over periods other than one day will likely differ in amount and possibly direction from the target return for the same period.
ProShares UltraPro S&P500 3x ETF (SPXU) -This ETF offers 3x daily short leverage to the S&P 500 Index, making it a powerful tool for investors with a bearish short-term outlook for large cap equities. Investors should note that SPXU’s leverage resets on a daily basis, which results in compounding of returns when held for multiple periods.
Direxion Daily S&P500 High Beta Bear, 3x ETF (HIBS) – This ETF seeks daily investment results, before fees and expenses, of 300% of the inverse (or opposite) of the daily performance of the S&P 500® High Beta Index. The fund invests in swap agreements, futures contracts, short positions or other financial instruments that, in combination, provide inverse (opposite) or short leveraged exposure to the index equal to at least 80% of the fund’s net assets. The index provider selects 100 securities to include in the index from the S&P 500® Index that have the highest sensitivity to market movements, or “beta” over the past 12 months as determined by the index provider. It is non-diversified
ProShares UltraPro Short Dow30 (DOG)- This ETF is a good idea for risk-averse investors that are looking for short-term hedges or to participate in some of the broader market’s downside. DOG is an inverse though not leveraged fund, meaning it should deliver a gain of 1% on a day in which the Dow loses 1%. With Boeing (BA) rapid fall from grace, DOG is now an interesting way of hedging long bets in stocks such as Apple (AAPL) and United Health (UNH) which are now the Dow’s top two stocks. Remember that the DOW is a price-weighted, not a cap-weighted index, meaning the stock with the largest price tag takes on the largest weight in the benchmark.
ProShares UltraPro Short Dow30, 2x (DDM) – This bearish leveraged ETF that seeks 2x the inverse of the daily performance of the Dow Jones Industrial Average, underlying benchmark (target) for a single day, as measured from one NAV calculation to the next. Due to the compounding of daily returns, holding periods of greater than one day can result in returns that are significantly different than the target return and ProShares’ returns over periods other than one day will likely differ in amount and possibly direction from the target return for the same period. Thus – hedges only for short-term.
ProShares UltraPro Short Dow30, 3x (SDOW) – This bearish leveraged ETF that seeks 3x the inverse of the daily performance of the Dow Jones Industrial Average with same caveats at DDM.
RUSSELL / SMALL, MID CAP
Short Russell 2000 (RWM): Inversely tracks the Russell 2000 Index. Its mission is to deliver the inverse daily return of the Russell 2000 Index. Financials command the top index sector weighting at 17.63%, followed by health care at 15.85% and information technology at 15.39%.
Direxion Daily Small Cap Bear 3X Shares (TZA)-Investors seeking to ride out the bearish sentiments in the small-cap space in a very short period of time could make a play on TZA. This is because it provides three times the inverse return of the daily performance of the Russell 2000 Index and exchanges
ProShares UltraShort Midcap 400 (MZZ) – This ETF offers 2x inverse exposure to the daily performance of the S&P MidCap 400.
ProShares UltraPro Short MidCap400 ETF (SMDD) – This ETF provides 3x inverse exposure to the S&P MidCap 400 Index.
ProShares UltraShort SmallCap600 (SDD) – This ETF targets the small-cap space and 2x the inverse of the daily performance of the S&P SmallCap 600 Index.
OTHERS (Financials, Treasuries, Industrial, Real Estate, by Country)
- UltraShort Financials (SKF): Inversely tracks the Dow Jones U.S. Financial Index
- Direxion Daily Financial Bear 3X Shares (FAZ)
- ProShares UltraShort Oil & Gas (DUG) – This fund seeks 2x inverse exposure to the Dow Jones U.S. Oil & Gas Index,
You can even invest in inverse ETFs for certain country and region indexes. Keep an eye on these:
- UltraShort MSCI Japan (EWV): Inversely tracks the MSCI Japan Index12
- UltraShort FTSE China 50 (FXP): Inversely tracks the FTSE China 50 Index13
Futures/VIX Volatility Funds
Note: Funds using futures, swaps , especially multiple leveraged ones can be dangerous unless day-trading them. Beware the lag: Investors considering these ETFs and ETNs should realize that they are not great proxies for the performance of the spot VIX. In fact, studying recent periods of volatility in the S&P 500 SPY, the changes in the spot VIX, the one-month ETN proxies captured about one-quarter to one-half of the daily VIX moves, while the mid-term products did even worse.
Please be aware of all risk.
- S&P 500 VIX Short-Term Futures ETN (VXX)
- S&P 500 VIX Mid-Term Futures ETN (VXZ) Instead of being tied to short term VIX futures, VXZB’s price was set by a rolling mix of 4th, 5th, 6th, and 7th-month VIX futures. VXZ is a much mellow performer than VXXB on both the up and downsides and has never has been as popular (In December 2018 it had $45 million in assets
- VIX Short-Term Futures ETF (VIXY)
ProShares’ VIXY annual fee is 0.87%, almost the same as VXXB but it’s structured as an Exchange Traded Fund (ETF) compared to the Exchange Traded Note construction of VXXB and VIIX. In theory, the ETF structure has lower counter-party risk, but in the case of these VIX futures-based products, it makes VIXY subject to K-1 tax reporting. K-1 reporting adds some tax return complexity (and the K-1 forms are always late) but sometimes will reduce your effective tax rate
- VIX Short-Term ETN (VIIX)
- Short VIX Short-Term Futures ETF (SVXY)
- Ultra VIX Short-Term Futures ETF (UVXY)
- Daily 2x VIX Short-Term ETN (TVIX) – UPDATE: Being DE-LISTED in July 2020.
Daily Inverse VIX Medium-Term ETN (ZIV)
How to Get Started with ETFS:
More information on how SWAPs are used in ETFs: https://www.thebalance.com/what-are-swap-contracts-1214894