Some exchange traded funds (ETFs), particularly those that are leveraged, have posted capital gains distributions this year.

In a report on capital gains distributions announced by ETF providers for the tax year 2008, Joseph G. Witthohn, director of ETF Research for Investable Themes, notes the following distributions:

  • Barclays has two of their 178 funds paying capital gains; both are under 1% of the net asset value (NAV).
  • State Street reports three ETFs as having capital gains; they’re all under 0.1% of NAV.
  • WisdomTree notes zero capital gains in their 41 equity funds.
  • RevenueShares reports zero capital gains.
  • Van Eck’s Market Vectors ETFs had one small capital gain to report among its 13 funds.
  • Claymore has no capital gains in its 21 ETFs.
  • Northern Trust has zero capital gains in its 16 ETFs.
  • PowerShares paid a small capital gain on one buy-write ETF.
  • ProShares had capital gains on 35 of their 76 ETFs.
  • Rydex distributed capital gains on 7 of their 31 ETFs.

ETFs have long been touted for their tax efficiency, and they still are. When it comes to leveraged funds, however, it’s caveat emptor. No matter where you choose to invest your money, it’s always wise to be aware of both the pros and cons. Not all products are right for all investors.

Leveraged ETFs have long been noted for their higher volatility, since they maximize market movements in either direction. In a year such as the one we just saw, the volatility even in some plain vanilla ETFs was stunning – never mind those that magnified the market’s movements by double or triple.

These distributions, particularly in leveraged funds, have caught some investors by surprise. Matt Hougan for Index Universe notes that industry discussions suggest an average holding period for these funds is about two weeks. If that’s true, the majority of shareholders probably won’t like paying gains on something held for such a short time. What’s more is that these gains are treated as regular income, not short-term capital gains, on tax returns.

Will the IRS change the rules?

Read the disclaimer, as Tom Lydon is a board member of Rydex Funds.

The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Mr. Lydon serves as an independent trustee of certain mutual funds and ETFs that are managed by Guggenheim Investments; however, any opinions or forecasts expressed herein are solely those of Mr. Lydon and not those of Guggenheim Funds, Guggenheim Investments, Guggenheim Specialized Products, LLC or any of their affiliates. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.