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UltraShorts and the Fall of the Uptick Rule

I will always be curious as to what the decision would have been regarding the uptick rule had the initial pilot program been carried though to today -- a period of high volatility, declining prices and spiraling deterioration in the credit crisis. Even if the uptick rule still existed, maybe we would have gotten to where we are on our own anyway, but I can't help but wonder if the same conclusion would be have been reached regarding whether or not the uptick rule made sense.

Postscript: Now that the uptick rule has been eliminated, it may be complicated to bring it back. Although ProShares did not make any public comments during the SEC's comment period surrounding the proposal to remove the tick test, my guess is that you will see significant lobbying, should talk to reinstate the rule start to heat up. It is all about economics: ProShares has now grown to almost $30 billion in AUM, and with fees of 95 basis points, we are talking about several hundred million at stake for the firm.

And the revenue line should be fairly close to the income line -- the firm does not have the employment load of the typical asset-management firm. ProShares has a relatively lean staff, since the nature of these types of ETFs is to basically just use swaps. There is no need for expertise in the underlying stocks and sectors -- one just needs expertise in swap documents. You can replicate the fund management process on almost anything as long as you can find a swap counterparty and negotiate the docs. In fact, the prospectus lists just five individuals who have day-to-day management responsibility for the 50-plus ProShares funds.

Since ProShares does not necessitate expertise in the stocks and sectors, it does not need an army of research analysts, although ProShares did announce this week that it hired a high-powered equity derivatives strategist to head up its investment strategies unit. I believe readers know what I think the shortcomings of these products are, so I can't help but wonder if the first "strategy" may be to dazzle the regulators as to why these need to exist and the uptick rule doesn't.

Know What You Own: ProShares funds include the ProShares Ultra Real Estate ETF (URE), the ProShares UltraShort Real Estate ETF (SRS), the ProShares Ultra Financial ETF (UYG), the ProShares UltraShort Financial (SKF), the ProShares UltraShort FTSE/Xinhua China 25 (FXP), the ProShares UltraShort QQQ (QID), the ProShares UltraShort Oil & Gas (DUG) and the ProShares UltraShort Industrials (SIJ).

This was originally published on RealMoney on Feb. 27, 2009. For more information about subscribing to RealMoney, please click here.

More on "Uptick Rule: Meaningful or Meaningless?"
Eric Oberg worked in fixed income, currencies and commodities for Goldman Sachs for 17 years before retiring as a managing director.
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DUG $50.88 0.20%
URE $109.34 -1.60%


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