A new wave of single-stock exchange-traded funds is sweeping across the ETF industry.
Until now, the ETF business has grown by primarily packaging plain-vanilla indexes like the S&P 500 to investors — along with more narrowly focused slices of the market like cybersecurity, clean energy, cloud computing and other thematic plays.
But now the ETF market is seeking to expand by offering amplified bets on individual stocks.
Direxion and GraniteShares are looking to roll out more than two dozen leveraged and inverse single-stock ETFs this year — and both have current proposals before the Securities and Exchange Commission.
In February, Direxion filed for 21 new ETFs, each offering exposure to the daily inverse or leveraged returns of widely held names like Facebook parent Meta Platforms, Nvidia, Netflix, Apple, Microsoft, Amazon and Alphabet. That filing followed AXS Investments’ earlier push for leveraged funds.
Such products are aimed at providing amplified ways to go long or short individual names, and will follow the typical leveraged ETF model — operating via a daily reset mechanism.
A daily reset suggests extremely short time horizons — as funds are being re-levered or de-levered every day. As Dave Mazza, head of product at Direxion told CNBC’s “ETF Edge” this week, such ETFs are really intended for traders rather than investors.
“If someone does not have the ability to monitor their portfolio to make a buy, sell or hold decision on a daily basis, these are not for them,” he said. “But it’s really a natural extension of the ETF marketplace … And this is a solution for the trading crowd.”
GraniteShares also has filed for a series of leverage and inverse ETFs in the U.S. But the firm is not new to the single-stock game. It already offers a suite of more than 100 similar products, which have been trading in Europe for the past three years, allowing traders to go three-times long or short names like Alphabet, Amazon, Apple, Facebook, Microsoft and Nvidia.
Will Rhind, CEO of GraniteShares, said such products have gained plenty of traction overseas.
“I have to say that it’s been very popular with investors,” he said. “There are just not many ways to accurately express either short-sided bets or long-sided positions on single stocks as conveniently as an ETF package. And that’s what these products do for people.”
Rhind says the adoption rate is especially high among a very specific type of sophisticated investor — someone who trades actively and is comfortable taking risks, especially when grappling with amplified gains and losses.
But with calls for more disclosure, Wall Street watchdogs like Financial Industry Regulatory Authority and the SEC have been cracking down on overly complex products.
SEC Chair Gary Gensler has already voiced concerns over leveraged and inverse exchange-traded products — saying they can pose risks even to sophisticated investors and “potentially create systemwide risk by operating in unanticipated ways” — especially when the markets are volatile or under stress.
Regulatory and trading risks
So, what are the odds the SEC gives these products the green light?
That’s tough to say, but Rhind notes that the structure of these products has been around for many years — and that investors have so far proven to be very comfortable with the way they work.
Still, Dave Nadig, financial futurist at ETF Trends, says it’s important to recognize the potential risks of contagion from trading such levered products.
“Imagine there being six, seven, eight, different ETFs, all pegged, say, against Amazon,” Nadig said. “Does the Robinhood investor understand in a world where we’ve got six or seven of these levers, or inverse plays on every major security in the market? That’s where it starts to get a little bit confusing.”
Mazza agreed there is a risk but reiterated that such ETFs should not be treated as buy-and-hold investments. He also said he does not foresee any systemic risk stemming from these products in the broader market.
“The ETF structure has proved to be resilient,” he said. “But at the end of the day, we really advocate for traders to understand how these work, particularly around that daily reset mechanism.”
He noted that the implied holding period for these products is extremely short, “so for the most part, folks are using them appropriately.”
Rhind added that the ETFs he’s looking to launch provide a safer way to do leverage than a lot of traditional methods of shorting — because traders will never lose more than their initial investment.
Of course, that comes at the expense of higher fees needed to continually rebalance these portfolios.
Following the flows
So, in these turbulent market times, what exactly are traders buying these days?
Mazza mentioned three different mentalities: risk-on, risk-off and rotational.
- Risk-on: Among Direxion’s most popular products is the Direxion Daily Semiconductor Bull 3X Shares (ticker: SOXL) — a basket of chip stocks that’s accrued more than $3 billion in assets under management. Mazza said flows into the semiconductor space have been strong, particularly on days when the market is down.
- Risk-off: Instead of selling individual positions in technology or financials, traders are turning to inverse ETFs to provide daily hedging if they think there’s an event risk out there, especially in earnings season.
- Rotational: Lots of money is pouring into oil and gas as crude prices soar, particularly in the Direxion Daily S&P Oil & Gas Exploration and Production Bull 2X Shares ETF (ticker: GUSH), a leverage vehicle on the energy sector.
Nadig stressed the importance of having brokers like Charles Schwab and Fidelity emphasize disclosures to ensure investors really know what they’re doing, which he believes are inevitable as more and more complex products come to market.
The problem, of course, is that companies can offer any multitude of disclosures, but there’s no guarantee investors will pay attention to them.
Bottom line, Nadig says, is these are speculative vehicles used for short-term event-driven trading that should not be viewed as portfolio-building blocks.
“My concern is that these are very, very sharp tools,” he said. “And when people reach their hand in the drawer, they’re not always looking as carefully as they should.”
The SEC has approximately 75 days to respond to these proposals
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