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Using Inverse ETFs - have we learned anything yet?

When I first began writing this blog, I was fascinated with the ProShares Ultra ETFs. I believed that by using the TradeRadar software, I would be able to time the market with sufficient accuracy to profit in upward trending markets with the ultra long funds and profit in down markets with the ultra inverse funds.

The reality has turned out to be more difficult than I anticipated. As some of you who commented on those early blog posts knew, market timing is no piece of cake, even when you have a software tool to help. It seemed that I ended up chasing trends that did not play out with sufficient duration to make the trade worthwhile.

My trading record, such as it is...

My record has not been encouraging. In my first attempt at using an ultra inverse fund, I purchased QID, the Ultra Inverse QQQ ETF, in early February, before the market broke down later that month. The NASDAQ began to recover soon after and I ended up losing over 5% on the investment because I held QID too long.

Without announcing it on the blog, I dabbled in SKF, the inverse financial ETF and ended up chasing a short-lived trend and losing money again.

I decided not to fight the bull market and bought QLD, the Ultra QQQ ETF, and made a few percent on the investment. I sold too early after a tough day in May reminded me how these ultra funds fall twice as fast as the underlying index.

Trying to be a consistent investor, I thought that if I am selling QLD, I should be buying QID. And so I did. Well, the bull hadn't given up quite yet and I have been underwater ever since. Even with today's plunge in the markets, I am still just shy of a profit.

Another trade that I haven't announced on the blog is SRS, the Ultra Inverse Real Estate ETF. My confidence in playing the inverse funds was lacking so I didn't add it to the public portfolio. This time, though, I should have bragged about it since SRS is now showing double digit gains as REITs continue to tank. I bought it soon after the post where I discussed how IYR, the iShares Dow Jones US Real Estate ETF, had fallen out of a trading range and looked very vulnerable.

So what have we learned?

Market timing can get you in trouble! Chasing short-term trends in the major averages is a dangerous game and that is what I was trying to do with the trades in QLD and QID. Stick with long-term trends but only if you feel comfortable recognizing them. After today's rout in the markets, is anyone ready to say the long-term trend is down? Not yet. So this time I am restraining myself from jumping into an inverse fund like SH, even though it looks like the S&P 500 is flashing a TradeRadar SELL signal.

Hedging may be a safer approach. Devote a small portion of your portfolio to an inverse fund and buy when it is cheap. If the corresponding index falls, you already have a position and you are not in a situation where you are chasing after a trend. When everything else is going down, you have at least one investment that is going up. That is how I have been viewing my latest investment in QID.

Industry specific events can be profitable if you are alert to how those events are unfolding in the markets. There has been a tremendous amount of discussion around problems in real estate, especially related to home builders. REITs, however, did not really start plunging until mid-May when they fell out of the trading range I mentioned above. When confronted with a solid move that looks like it will play out over time and over a wide price range, the inverse ETFs become a good choice.
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Anonymous said…
Perfect example of what not to do in the market. The only people making money timing the market are brokers through fees and uncle sam through taxes
August 17, 2007 at 11:12:00 AM EDT

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