My personal experience shows 3x etf is not a fair game

I think I need to retract my previous message. I'm not sure that it's all wrong, but I'm no longer confident in what I wrote, because, checking DWTI (negative 3X OIL ETF), I see the following movement from 2015-12-04 to yesterday's close:

DWTI: $148.50 --> $57.71 (down 61.1%)

The speed of volatility drag, according to Zhang's PhD thesis, and according and given the assumptions he described, should be proportional to (L**2)-L (where L is the leverage factor, which would be 3 for a 3X ETF like UWTI and -3 for a negative 3X ETF like DWTI). This expression is 6 for a 3X ETF and 12 for a -3X ETF. So, the decay rate of a -3X ETF should be twice as fast as that of a 3X ETF, so the decay of a -3X ETF should be about the square of a 3X ETF.

However, if I attribute only a 10.9% drop in the value of UWTI to that decay, the decay from rebalancing of DWTI should be 20.6% (that is, 100% - (100% - 10.9%)**2), but DWTI dropped much more than that.

I suspect that part of the apparent disagreement between theory and reality here is that perhaps due to the difference between the actual movement of oil futures prices and the random walk assumed in Zhang's thesis. Intuitively, perhaps the daily prices have been more mean reverting.
 
toonerdy said:
GloriaBrown, comparing to the OIL ETF, it appears to me that only about a fifth of of UWTI's loss can be attributed to "volatility drag" leverage rebalancing effects (as discussed in the paper I linked to in my March 9th, 2016 posting in this thread). The bulk of the loss was, I suspect, due to futures contango.

From the close on Decmeber 4th (when UTWI closed closest to $60 in early December), 2015 to yesterday's close, OIL and UWTI moved thusly (close prices adjusted for splits and dividends, from Yahoo):

Your recollection of oil spot prices: $36.93 --> $50.48 (up 36.7%)
OIL: $7.22 --> $6.18 (down 14.4%)
UWTI: $59.90 --> $27.47 (down 54.1%)

Triple the drop in the OIL ETF (14.4% x 3) is a loss of 43.2%, which is 79.85% of UWTI's 54.1% loss.
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it looks like oil futures always have contango no matter in raise trend or drop trend.
 
i seem to recall a strategy -
where you shorted Both the Long And the Short etf...?

it's been a while, so i can't recall details,
but it took lots and lots of capital, and constant monitoring...

marc
:D
 
GloriaBrown said:
This person claims there is no decay because of daily rebalancing:
http://www.matlabtrading.com/2011/05/guess-what-leveraged-etfs-dont-decay.html?m=1
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Because there isn't!!!! I don't know why this daily percent returns thing is so hard to grasp, but what people call "decay" is simply path dependency comparing two securities that aren't returning the same thing. A fixed leveraged ETF position held against an opposite index position is just as likely to lose money as gain it, that isn't "decay". If you rebalance the position daily so that both sides return the daily percent return, you'll see that the only decay is the fraction of a percent difference if fees between the two funds. Try it, I'll even send you the appropriate code in Quantopian so you can see for yourself.
 
Sig said:
Because there isn't!!!! I don't know why this daily percent returns thing is so hard to grasp, but what people call "decay" is simply path dependency comparing two securities that aren't returning the same thing. A fixed leveraged ETF position held against an opposite index position is just as likely to lose money as gain it, that isn't "decay". If you rebalance the position daily so that both sides return the daily percent return, you'll see that the only decay is the fraction of a percent difference if fees between the two funds. Try it, I'll even send you the appropriate code in Quantopian so you can see for yourself.
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there is actually decay. Just do a simple calculation like the 1x etf raise up and down like 0.5% everyday sideway then the 3x bull or bear etf would drop around 8% per year. But the main problem should be contango.
 
GloriaBrown said:
there is actually decay. Just do a simple calculation like the 1x etf raise up and down like 0.5% everyday sideway then the 3x bull or bear etf would drop around 8% per year. But the main problem should be contango.
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No, there isn't. Again, I'll be happy to provide you a Quantopian backrest to show that if you rebalance the portfolio daily so the long 1x is returning the percent daily change the same as the 3x or inverse there is absolutely no "decay" beyond the fees for each ETF which a very small. Contango has nothing to do with anything, if a 1x is tracking an index of something subject to contango it's impacted by the contango the same as the 2x, 3x, or inverse! If you don't rebalance, then in some markets the 3x will return more than 3 times the underlying and sometimes it will return less, it's entirely path dependent. Something that sometimes returns more and sometimes returns less is not "decaying" any more than MSFT is "decaying".

Let me provide an example. You go short $100 in a 2X fund and long $200 in a regular ETF tracking the same index, so one should exactly balance the other and over time you'll make guaranteed money as the 2X short position "decays". On day 1, the index falls 20%. Your short position goes to $140 and your long position goes to $160, so you're still at $300. The next day the index goes up 20%. Your short position is now at $84 and your long position is at $192. Your total is $276, you lost $24 because the 2X ETF didn't "decay" like you thought it would. If you keep bouncing back and forth with a loss followed by a similar percentage gain, you lose more and more money on this "can't lose" supposed "decay" of the 2X ETF, which in fact is losing value at a slower rate than twice the 1X regular ETF. Any time you have a choppy market this will happen, you only see "decay" if you have a nearly monotonically increasing or decreasing market.
 
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That's a great explanation, but unfortunately some on ET will never understand...
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