Taking the Measure of the Double-Short ETF
The converse of double-long is double-short. ProShares has now listed the Ultra Short S&P 500 Fund (SDS), which is meant to capture twice the daily inverse of the S&P 500, double-short.
Using the open-end equivalent, (URPIX)ProFunds Ultra Bear Fund, as a litmus test, the double-short ETF is likely to have tracking errors due to things like cash building up and rolling of derivatives owned in the ETF. To be crystal clear, I expect there to be a noticeable tracking error that will vary in size over time.
As in my column on the double-long ETF, I would like to focus on potential strategy for the double-short ETF. The prospectus will spell out the potential flaws better than I will, and is essential reading for anyone considering the investment.I expect that, in time, the double-short ProShares will draw people looking to make big bets on market direction for short periods of time. The fund will be a good resource for this, because trading ETFs is cheap, and despite the thin volume in the instrument so far, the market should be reasonably deep. But consider this fair warning to use limit orders on any thinly-traded vehicle. Another use for the double-short fund is in a defensive context for investors who do not consider themselves to be active short-term traders but who want one more way to take defensive action or reduce net exposure to equities. I do not believe there is a reliable way to predict movements in the tracking error, so for the sake of discussion, I will assume that SDS perfectly captures twice the inverse of the S&P 500. The primary role that the double-short ETF can play in a defensive strategy is to reduce net long exposure without selling a lot of stock. By selling down only 10% of an all-equities portfolio and plowing that 10% into the double-short fund, net equity exposure goes from 100% down to 70% without a lot of turnover.
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