- The 3x leveraged ETFs are hard to locate borrows for, so its very possible you would never be able to open a short position when you wanted to.
- Once your position is opened, it will be difficult to hold the borrow. The high volume, short holding periods, and leveraged decay work against you because there are not any long term holders borrowing out shares.
- The cost to borrow the shares will be significant. It is not uncommon to pay between 20% to 50% per annum to borrow stocks that are hard to borrow.
- Assuming you have made it this far, you would now need to re-balance the trade daily.
- There is some massive short term distributions not accounted for properly in the charts.
- A consistent market trend for even a few days significantly raises capital requirements.
Monday, July 6, 2009
Why your brilliant plan to short a pair of 3x ETFS will not work.
There is barely a day that goes by I do not hear or read about someone talking about the brilliant strategy of shorting a pair of leveraged ETFs. They pull up the charts and say look, they both go down! The favorite pair seems to be FAS/FAZ, here are a list of reasons this brilliant strategy will not work.
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Do you know how the brokerages determine a cost for borrowing equities that are difficult to locate? I was under the impression, although I could be incorrect, that if I attempt to sell shares of an equity short, my broker will initially attempt to locate the shares that are held in street name within another account within the same brokerage. If a sufficient number of shares are not available, then the broker will attempt to borrow the shares from another brokerage and will charge a borrowing fee. Is that how this works? I was under the impression if the shares are not difficult to borrow, then the only fees to the the inventor up until the day the position is covered are the commission for the trade and application margin fees if less than 30% of the value of the shorted shares of stock (this amount has been increased to 90% for triple-leveraged ETFs) is held in cash in the investor's margin account.
I agree with your central theme that both FAS and FAZ are probably far too difficult to borrow to make a double shorting strategy worthwhile. Even now in March 2010, eight months after your original post, there are slightly less than 11 million shares of FAS outstanding, yet the average daily volume is close to 30 million shares. According to shortsqueeze.com, about 20% of the shares of FAS are sold short, so there must be some people paying hefty borrowing fees.
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