A Leveraged Etfs Strategy

In a post approximately years ago, I argued that leveraged ETF (especially the triple leveraged ones) are unsuitable for long-term holdings. Today, I desire to introduce inquiry that suggests leveraged ETF tin hold out rattling suitable for short-term trading.

The inquiry inwards interrogation was simply published by Prof. Pauline Shum as well as her collaborators at York University. Here is the simplest version of the strategy: if a stock marketplace seat index has experienced a provide >= 2% since the previous day's closed upwards to the electrical flow fourth dimension at 2:15pm ET, as well as thus purchase this index (via its futures, ETFs, or stock components) correct away, as well as acquire out at the closed with a market-on-close order. Vice versa if the provide is <= -2%. The annualized average provide from June 2006 to July 2011 was constitute to hold out higher than 100%.

Now this strategy is truly quite well-known with institutional traders, although this is the get-go fourth dimension I view the backtest results published. The ground why it plant is likewise quite well-known: it has to produce with the fact that every leveraged ETF demand to rebalance at the marketplace seat closed inwards social club to expire on its leverage constant (at x2 or x3, depending on the fund). If the marketplace seat index goes up, the fund needs to purchase the gene stocks; otherwise, it needs to sell stocks. If at that spot is major marketplace seat motility (with absolute provide >= 2%) since the previous close, as well as thus the sum of stocks that demand to hold out bought or sold volition hold out correspondingly larger, resulting inwards momentum inwards all those stocks nigh the close. This strategy aims to front-run this rebalancing to receive got payoff of the anticipated momentum.

It has been estimated that if the marketplace seat moves past times 1%, the rebalancing could trouble concern human relationship for upwards to 16.8% of the market-on-close volume, thus the induced momentum tin hold out substantial. Now who is paying for this profits for those momentum traders? Why, the buy-and-hold investors, of course. This loss for the ETFs shows upwards equally their tracking errors, resulting inwards a cost of equally much equally 5% per annum for the buy-and-hold investors. Yet approximately other ground nosotros should non hold out 1 of those investors!

As Prof. Shum pointed out, if y'all merchandise this strategy alive today, y'all volition probable acquire a lower return, because of all those momentum traders who drove upwards the toll trend earlier the close. However, at that spot may hold out an ameliorating factor at function here: this momentum is proportional to the NAVof the ETFs. As their NAV goes upwards with fourth dimension (either due to additional subscriptions or positive marketplace seat returns), the returns of this strategy should likewise increase.

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Now for approximately world service announcements:

1) H5N1 fellowship called Level iii Data Corp sells proprietary information indicating buying as well as selling pressure level on stocks. Their internal backtests present that adding these information to approximately mutual stock trading strategies essentially double their returns. An explanatory video is available, as well as I heard they are offering 3-month costless trials.

2) The London Systematic Traders (LST) Club has asked me to country a few words nigh their novel first to laid upwards a London centric collaborative community of traders, developers as well as researchers.

LST aims to hold out at the intersection of traders, developers as well as quants with a rigid emphasis community edifice as well as on cognition exchange, providing a trading networks with a rattling specific focus on systematic, algorithmic (i.e. automated) or quantitative trading.

Membership is costless as well as opened upwards to everybody with an involvement inwards the higher upwards topics.

http://www.meetup.com/London-Systematic-Traders/

On Friday, November 23, I await to hold out hosting a Q&A session with members of the LST (see 2 above) at the Apex Hotel inwards London. All are welcome. Please see their website for details.

3) I volition hold out conducting my Backtesting as well as Statistical Arbitrage workshops inwards London, November 19-22, as well as facial expression forwards to seeing approximately of our readers there!