Leveraged Exchange-Traded Funds

Transcription

1 Leveraged Exchange-Traded Funds

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3 Leveraged Exchange- Traded Funds A Comprehensive Guide to Structure, Pricing, and Performance Narat Charupat and Peter Miu

4 LEVERAGED EXCHANGE-TRADED FUNDS Copyright Narat Charupat and Peter Miu 2016 Softcover reprint of the hardcover 1st edition All rights reserved. No reproduction, copy or transmission of this publication may be made without written permission. No portion of this publication may be reproduced, copied or transmitted save with written permission. In accordance with the provisions of the Copyright, Designs and Patents Act 1988, or under the terms of any licence permitting limited copying issued by the Copyright Licensing Agency, Saffron House, 6-10 Kirby Street, London EC1N 8TS. Any person who does any unauthorized act in relation to this publication may be liable to criminal prosecution and civil claims for damages. First published 2016 by PALGRAVE MACMILLAN The authors have asserted their rights to be identified as the authors of this work in accordance with the Copyright, Designs and Patents Act Palgrave Macmillan in the UK is an imprint of Macmillan Publishers Limited, registered in England, company number , of Houndmills, Basingstoke, Hampshire, RG21 6XS. Palgrave Macmillan in the US is a division of Nature America, Inc., One New York Plaza, Suite 4500, New York, NY Palgrave Macmillan is the global academic imprint of the above companies and has companies and representatives throughout the world. Hardback ISBN: E-PDF ISBN: DOI: / Distribution in the UK, Europe and the rest of the world is by Palgrave Macmillan, a division of Macmillan Publishers Limited, registered in England, company number , of Houndmills, Basingstoke, Hampshire RG21 6XS. Library of Congress Cataloging-in-Publication Data Charupat, Narat, author. Leveraged exchange-traded funds : a comprehensive guide to structure, pricing, and performance / Narat Charupat, Peter Miu. pages cm Includes bibliographical references and index. 1. Exchange traded funds. I. Miu, Peter, author. II. Title. HG6043.C dc A catalogue record for the book is available from the British Library. Printed in the United States of America.

5 Contents List of Figures List of Tables vii ix 1 Introduction 1 2 Regulations and Taxations 13 3 Mechanics 21 4 Return Dynamics and Compounding Effects 35 5 Pricing Efficiency 49 6 Performance and Tracking Errors 73 7 Trading Strategies Options on LETFs 139 Notes 165 Bibliography 171 Index 175 v

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7 Figures 4.1a Payoffs of a One-Year $100 Investment in a 2x ETF under Low Volatility b Payoffs of a One-Year $100 Investment in a 2x ETF under Low Volatility a Payoffs of a One-Year $100 Investment in a 2x ETF under High Volatility b Payoffs of a One-Year $100 Investment in a 2x ETF under High Volatility Expected Return under Low-Volatility Bullish Market Conditions Expected Return under High-Volatility Bullish Market Conditions Expected Return under Low-Volatility Bearish Market Conditions Expected Return under High-Volatility Bearish Market Conditions A Plot of Expected Two-Year Holding Period Returns against the Corresponding Standard Deviations of Returns for Different LETFs with Hypothetical Leverage Ratios of +1x, +1.5x, +2x, +2.5x, and +3x, Respectively Cumulative Investment Value of Long-Only versus Short-Only Strategy A Plot of Implied Volatility against Natural Logarithm of Moneyness Ratio for Call Options on SPY and SSO A Plot of Implied Volatility against Natural Logarithm of Moneyness Ratio for Call Options on SPY and SDS A Plot of Implied Volatility against Transformed Moneyness Measure for Call Options on SPY and SSO A Plot of Implied Volatility against Transformed Moneyness Measure for Call Options on SPY and SDS 159 vii

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9 Tables 1.1 Total Number, Assets under Management, and Average Daily Volume of LETFs in United States in 2012 by Underlying Asset Classes Top Ten LETFs in United States in 2012 by Their Assets under Management Top Ten LETFs Based on the Annual Contract Volume of Their Options Trading on the Chicago Board of Exchange in Trading Statistics of Selected LETFs LETF s Two-Day Compounded Returns under Different Scenarios Simulation Results Descriptive Statistics Price Deviations Correlations among Price Deviations Price Deviations Based on the Returns on Their Underlying Indices Relative Size of LETFs and Inversed ETFs Regression Estimates Descriptive Statistics Half-Year Performance (in Percentage Points) of Funds Relative to Underlying Benchmarks Single-Variable Regression Results Three-Variable Regression Results Optimal Leverage Ratio under Different Market Conditions Expected Returns and Standard Deviations of Returns for Different LETFs Long-Only versus Short-Only Strategy Proportion of Time in Which Shorting the 3x LETF Gives Us a Higher One-Year Compounded Return Than Going Long on the +3x LETF Sharpe Ratio from Shorting the 3x LETF Simulated Median One-Year Compounded Return on Pair Strategy 136 ix

10 x Tables 7.7 Sharpe Ratio of Pair Strategy Call Option Prices as Fractions of Underlying ETF and LETF Prices (i.e., c t /L t ) Based on Black-Scholes Model for Different Moneyness Ratios Put Option Prices as Fractions of Underlying ETF and LETF Prices (i.e., p t /L t ) Based on Black-Scholes Model for Different Moneyness Ratios Deltas of Call Options on ETFs and LETFs for Different Moneyness Ratios Based on Black-Scholes Model Hypothetical Implied Volatility Table 152