Shorter periods with lower index volatility result in higher probability of meeting one-day targets, but rebalancing the size of one’s fund positions could be an effective mechanism for approximating daily leverage targets over time. This involves checking index returns against fund returns and setting a trigger percentage of deviation as a marker for rebalancing.
Nevertheless, an investor should be aware of two things:
- Returns from the rebalancing strategy can be lower than those of an un-rebalanced strategy during trending markets or low market volatility
- The use of rebalancing also may remove the negative as well as the possible positive effects of compounding
By using leveraged and inverse ETFs in a long-term portfolio strategy, an investor may pursue returns while managing risk of long equity and fixed-income positions. It should be noted that there is a high correlation between the length of holding and the probability of hitting a beta close to daily targets.
The rebalancing process, the study says, is straightforward:
- Observe the gap between the return of the index and the return of the ETF
- Rebalance the holdings when the gap goes past a pre-set trigger (or at fixed intervals)
- The investor would lower the fund exposure if the return of the index is less than that of the fund; vice versa if the return of the index is more than that of the fund
For more stories on leveraged and inverse ETFs, visit our long-short ETF category page.
Max Chen contributed to this article.