Leveraged exchange traded funds are being blamed for the wild volatility in stocks last month, but data and empirical evidence show the concerns are way overblown.
“With equity volatility doubling recently, some of the same topics that came up two years ago during the credit crisis have resurfaced as people look for possible culprits,” Credit Suisse said in a recent report. “ETFs have received some blame for the increasing volatility, although we believe it’s a case of confusing correlation with causation.”
The Wall Street Journal reports the Securities and Exchange Commission is looking into whether leveraged ETFs magnified the market’s wide swings in August. [SEC Reportedly Probing Whether ETFs Added to Market Volatility]
Many leveraged ETFs are geared to provide 200% or 300% of the daily moves in stocks. “Inverse” leveraged ETFs rise when stocks fall. These high-octane funds need to rebalance every day to provide the desired performance.
“Our findings show that the leveraged ETF rebalancing trades are unlikely to be the most influential factor in driving intraday swings into the close,” Credit Suisse said in its report. “Less liquid spaces like small caps and specific sectors may be more likely to be affected on rare days with extreme moves, but liquidity needs are often quickly met in the same way as for typical index rebalances that occur throughout the year.”
Morningstar ETF researcher Scott Burns told the WSJ that although leveraged ETF trading jumped along with market volatility in August, they likely didn’t play a major role in the swings because not enough cash is invested in the funds.
Leveraged exchange traded products hold assets of $35 billion, with short and ultra-short products accounting for about $22 billion of the total, according to a recent report from Barclays Capital. There is about $1 trillion invested in all ETFs. [Understanding the Basics of Leveraged ETFs]
According to Morningstar, leveraged and inverse ETFs represent just 5% of total assets held in ETFs, MarketWatch reported.