Executive Summary

• ETFs are advantageous for targeting specific areas in which to invest.

Introduction

We cover some of the important characteristics of ETFs.

Understanding ETFs

Currently, all three “shorts” are actually ETFs.

Shorting is complicated and very much about timing. Once the date passes, the option (puts) expire and are worthless. The concept behind using ETFs is that it allows for a longer term short.

Second, buying a series of puts is overhead. The idea is that by buying ETFs that overhead would be reduced.

Although inverse ETFs are considered riskier than traditional ETFs, they are bought outright, which makes them relatively less risky than other forms of bearish bets. When an investor shorts an asset, there is theoretically unlimited risk, and the investor could end up losing much more than they had anticipated.

With inverse ETFs, on the other hand, an investor can only lose as much as they paid for the ETF. In an absolute worst-case scenario, the inverse ETF becomes worthless—but at least you won’t owe anyone money, as you might when shorting an asset in a traditional sense. – The Balance

Section #1: The Benefits of ETFs

Leveraged ETFs allow investors to take a chance to enhance the risk they’re taking on a daily basis, says Todd Rosenbluth, director of ETF and mutual fund research for CFRA. These funds often are designed to have returns two or three times their benchmark on a daily basis. Meanwhile, inverse ETFs allow investors to easily short an index if they believe the price will fall.

https://www.etf.com/sections/features-and-news/etf-education-problem-inverseleveraged-etfs

One of the beautiful things about ETFs is that they disclose their holdings (mostly) on a daily basis. So take the time to look under the hood and see if the holdings, sector and country breakdowns make sense. Do they match the asset allocation you have in mind?

Sometimes, fund managers will only buy some—not all—of the stocks or bonds in an index. This is called “sampling,” or more optimistically, “optimization.” A sampled strategy will typically aim to replicate an index, but it may over- or underperform slightly based on what securities it holds.

Huge Choices in ETFs

With more than 1,800 ETFs on the market today, investors face many choices in whatever area of the market they’re choosing. In years past, for instance, the difference between the best-performing “biotech” ETF and the worst-performing “biotech” ETF was more than 18 percent.

Why?

One of those ETFs holds next-gen genomics companies looking to cure cancer, while the other holds tool companies servicing the life sciences industry. Both biotech? Yes. But they mean different things to different people.

https://www.etf.com/sections/features-and-news/best-2020-how-do-you-choose-right-etf

Low Fees With ETFs

The first thing people talk about when they talk about ETFs is their low fees. And it’s true: While the average U.S. equity mutual fund charges 1.42% in annual expenses, the average equity ETF charges just 0.53%.

ETFs are cheaper than traditional mutual funds for many reasons. For starters, most ETFs are index funds, and tracking an index is inherently less expensive than active management. But index-based ETFs are even cheaper than index-based mutual funds. So what gives?

It comes down to the way mutual funds and ETFs relate to their investors.

https://www.etf.com/etf-education-center/etf-basics/why-are-etfs-so-cheap

Trading ETFs Anytime

Let’s imagine, for instance, two products that are designed to track the S&P 500: an ETF and a mutual fund. If you look under the hood, both products will hold all (or most) of the 500 stocks in the index, in the exact proportion in which they exist in the index. At this level, the two product structures are identical.

The difference of course is that ETFs are “exchange traded.” That means you can buy and sell them intraday, like any other stock. By contrast, you can only buy or sell index funds once per day, after the close of trading. You do this by contacting the mutual fund company directly and telling them you want to acquire or redeem shares.

Disclosure With ETFs vs Mutual Funds

Holdings in an ETF are disclosed on a regular, frequent basis, so investors know what they are investing in and where their money is parked. Mutual funds, by contrast, only disclose their holdings quarterly, with a 30-day lag.

Because ETFs are traded like stocks, you can do things with them you can’t do with mutual funds, including writing options against them, shorting them and buying them on margin.

https://www.etf.com/etf-education-center/etf-basics/etfs-vs-mutual-funds

Section #2: The Problems with ETFs

But the vehicles used to place these trades—leveraged and inverse ETFs—often have poor returns.

“They’re intended to move more aggressively than the broader market that they’re representing. If the trend flips, you can get hurt very quickly. You can make money very quickly, and it’s usually the getting hurt very quickly that investors tend to not see coming,” Rosenbluth said.

Because of the volatile nature of these ETFs, many brokerage platforms don’t allow them for advisors to use to put forward trades, Rosenbluth said, “because they’re more akin to gambling than investing.”

https://www.etf.com/sections/features-and-news/etf-education-problem-inverseleveraged-etfs

Liquidity and ETFs

One of the main risks of inverse ETFs is their lack of popularity. While you can buy many types of ETFs, you won’t find a huge selection of inverse ETFs. With fewer options and less demand, you’ll likely find that inverse ETFs have less liquidity than other ETFs. For example, the ProShares inverse ETF tracking the S&P 500 (SH) has an average daily trading volume of a little more than 6 million as of November 5, 2020.4 That’s significantly less than the SPDR S&P 500 ETF (SPY), which has an average daily volume of more than 90 million during the same time period. – The Balance

https://www.thebalance.com/six-questions-to-ask-about-inverse-etfs-1214927

Trading Spreads and ETFs

Trading costs can quickly eat into your returns. Understand an ETF’s liquidity before you buy, and always trade with limit orders.

https://www.etf.com/etf-education-center/etf-basics/what-risks-are-there-in-etfs

Inverse ETFs Versus Pro ETFs

It was curious to find that there appear to be many more pro ETF funds than inverse ETF funds.

Conclusion

For specific targeting, it is difficult to beat ETFs. ETFs are also some of the best instruments to engage in shorting, as they do not require a timing component, and the options or puts that are necessary for shorting do not expire.