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European Contagion Fuels Short ETFs

Editor's note: As part of our partnership with PBS's Nightly Business Report, TheStreet's Glenn Hall joined NBR Tuesday (watch video and read transcript here) to discuss ETF options for betting on or against Europe as Greece teeters on the brink of default.

NEW YORK (TheStreet) -- The twists and turns of Europe's efforts to resolve its mounting debt crisis are creating an unpredictable tug of war between long and short exchange traded funds linked to European markets.

ETFs that seek to match the performance of markets in France, Italy and Germany have delivered decent returns that topped 10% and flirted with levels above 20% for much of the year, but those gains have been quickly erased every time news about the Greek debt drama emerged or pundits started stoking fear of contagion spreading to other countries.

Lately, the negativity appears to be holding longer than before and now the "short" and "ultrashort" ETFs -- designed to go in the opposite direction of European markets -- have been breaking away and delivering consistent gains.

Word on the Street

In fact, we've been seeing the short ETFs topping 10% and flitting above 20% returns lately as the turmoil in Europe became increasingly apparent following last week's resignation of Germany's representative to the European Central Bank amid discussions about a Greek bailout and after today's report that Moody's Investors Services may cut ratings on France's largest banks, including BNP Paribas, Societe General and Credit Agricole. Shares of all three banks have taken a hit in recent weeks due to their exposure to Greek government debt.

Investors face a difficult choice, especially if they already have money in long ETFs such as the iShares MSCI France (EWQ), which is sinking as short ETFs like the ProShares UltraShort MSCI (EPV) surges.

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The short ETFs have been able to break away so quickly that many investors may have missed the chance to offset losing bets on other European securities, and the long ETFs have dropped so fast that many may not have had time to get out.

There may still be upside for the shorts if European leaders fail to take decisive action to address the problems in Greece. The declines in the long ETFs, however, may present a buying opportunity for those who anticipate a resolution that stabilizes European markets.

Either way, these are risky bets that are tied to an increasingly volatile political debate in Europe that could go in drastically opposite directions with a bailout of Greece or a Greek exit from the euro zone. The devil will be in the details either way, so it's impossible to predict which scenario will stoke the shorts and revive the longs. The following slides compare the performance of three key long ETFs vs. three short alternatives.

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