The Investment Opportunities Offered by Leveraged ETFs

One of the most difficult things to balance in investing is risk and reward. Investors often get attracted to the opportunities with the greatest potential for return, but these also tend to be the investments with the greatest risk. One security that falls under this umbrella is the leveraged exchange-traded fund (ETF), which uses financial derivatives and debt to increase returns. Traditional ETFs track an underlying index by matching securities on a one-to-one basis. That way, the return for investors is similar to that for the underlying index. With a leveraged ETF, the ratio may be two- or even three-to-one so that returns are doubled or tripled. However, losses are also doubled or tripled. 

Breaking Down the Typical Anatomy of a Leveraged ETF 

An ETF is a specific type of fund that invests in securities from an index that it tracks. For example, an ETF may track the S&P 500 Index and thus invest in the 500 stocks that are found on that index. This means that a 1 percent gain in the index translates to a 1 percent gain for ETFs. While leveraged ETFs largely do the same, they use financial products and debt to magnify that gain into a 2 or 3 percent one for investors. The actual magnification depends on the amount of leverage used in the ETF. The term “leverage” refers to an investment strategy involving the use of borrowed funds to buy options and futures that increase gains. The unfortunate thing about leverage is that it works both ways. In other words, losses also get magnified. 

Leveraged ETFs often use options contracts to increase exposure to a particular index. Importantly, leverage does not amplify the annual returns from an index but rather the daily shifts in price. With an options contract, investors have the ability but not the obligation to buy or sell the underlying security. However, options contracts have an expiration date by which action must be completed. These options make it possible to buy a large number of shares of a particular security. Options layered within a fund can significantly magnify the gains of a particular stock. Portfolio managers also have the ability to borrow money for additional shares of securities to drive profits even further.  

The Costs Involved with Shares of a Leveraged ETF 

The management fees and transaction costs associated with leveraged ETFs can prove quite high on their own. However, there are other costs that get involved with leveraged ETFs. For the most part, leveraged ETFs have higher fees than their traditional counterparts. This is due to the premiums that need to be paid on options contracts, as well as the cost of borrowing to further one’s position. Borrowing money for further investment is known as margining. Leveraged ETFs tend to have an expense ratio of 1 percent or even more. Despite this high expense ratio, leveraged ETFs are often among the most affordable types of margin. Remember that you will pay interest rates for a margin loan. 

A popular form of margining is short selling, which involves borrowing shares from a broker to bet that the stock will decrease in price. The fees involved with this type of margin tend to be at least 3 percent, if not higher. Using margin to buy stock has similarly high fees. Plus, doing this may result in a margin call, which is when the broker asks for the money borrowed once the collateral securities start to lose value. A call can put investors in serious jeopardy. Leveraged ETFs avoid many of these issues and thus could be considered less risky or at least cheaper. However, it is important to recognize that leveraged ETFs have the potential to lose a lot of money very quickly. 

How Investors Can Make the Most from Leveraged ETFs 

Traders typically use leveraged ETFs to speculate on an index and take advantage of short-term momentum. Many investments are typically made with a long-term viewpoint but this is not typically the case with leveraged ETFs due to the high risk and high cost of the investment. Plus, leveraged ETFs rely on derivatives to create leverage and derivatives themselves have expiration dates and are not designed to be long-term investments. Traders typically hold leveraged ETF positions for a few days at most. Over even a short period of time, the returns from a leveraged ETF may be quite different from those of the underlying index since the amplification happens at the daily level.  

When chosen correctly, leveraged ETFs can achieve very high returns depending on the gains of the underlying index. Also, there is the option to use an inverse leveraged ETF, which is designed to make money when the market declines. This fund loses money if the market gains. At the same time, there are serious drawbacks that need to be considered. The losses can be just as high as the gains and you need to ensure that you can survive this level of loss before you invest. Plus, you need to account for the high fees associated with a leveraged ETF as these can quickly cut into profits. Also, if you do not have the time to be an active trader, you should choose an investment that you can hold for longer.  

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5 of the Most Popular Commodities among Modern Investors

For many investors, commodities are popular alternative investments because they provide an excellent hedge against inflation. While commodities prices can be volatile because they are sensitive to everything from weather events to political turmoil, their price is uniquely tied to inflation, so they can help your portfolio remain above water during periods of extremely high rates. Furthermore, commodities provide diversification beyond their ability to hedge inflation since the economic pressures determining their price are often very different from the rest of the market.  

Still, if you want to invest in commodities, you will need to know which is best for your portfolio. Some commodities to consider include: 

1. Precious metals  

Gold, silver, and other precious metals generally have high prices even during periods of high inflation. During particularly weak economies, precious metals can be used as an alternative to fiat currency. This is where the term gold standard comes from, giving an idea of how important this investment can be during economic crises.  

Throughout 2022, the price of gold has increased despite the high inflationary environment across the globe. If you want to invest in precious metals but not purchase bullion, you can consider ETFs that invest in this commodity. Some of these ETFs even allow you to exchange your shares for physical assets should you change your mind down the line. If you do choose to invest in precious metals, remember that prices can fluctuate wildly, so do not get nervous and liquidate when there is a sudden downturn; the price will turn around quickly. 

2. Industrial metals  

You can invest in more than just precious metals. Some industrial metals like copper and aluminum can be great investments. Experts predict that the price of copper will double in the next five or so years because of growing demand in the construction and production industries. Copper is used in electric vehicles, solar power and electric grids, cookware, and many other goods. Along the same lines, lithium is expected to make major gains in the coming years because of its use in electric vehicle batteries. Countries around the world are pushing for greener transportation, so the demand for these batteries will likely only continue to increase. Some people think that lithium may end up being a better investment than gold considering its growth potential.  

3. Fine wine  

Fine wine has emerged as a major commodity for investors, especially those trying to hedge against inflation. This class has consistently outperformed the consumer price index. When inflation hit 7 percent in 2021, the growth in the wine industry was more than 12 percent. For investors, fine wine is the perfect investment in that it only becomes more valuable with age and is driven by limited availability. Most of these wines have limited production runs and can be difficult to find on the secondary market. Because these wines are so rare, collectors will pay very high prices to get their hands on the right bottle. Moreover, you do not have to be an expert in fine wine to figure out which ones will be most valuable to collectors. Rather, you can turn to wine investment firms to handle these decisions for you. 

4. Real estate 

You may not think of real estate as a commodity, but it falls under this umbrella. As a general rule of thumb, real estate increases in value with inflation. Real estate is a flexible investment that provides a steady income. You can adjust rent prices according to inflation to ensure that you get a fair return for the current market. Moreover, you should consider both residential and commercial properties as they are affected by different economic factors. Holding both provides some diversification within the real estate asset class. If you do not want to invest in properties themselves, especially considering the high cost of management, then you can always opt for a real estate investment trust, which issues shares that trade like a stock. These shares are a liquid investment with built-in diversification. 

5. Energy  

Energy demand will only continue to increase as the population expands. Around the world, there has been a push toward greener options than fossil fuels, but demand for natural gas and oil remains very high. In fact, demand has not really decreased at all even as green energy has become more available. Heavy industry remains very dependent on fossil fuels, and it going green likely won’t happen for a long time.  

That said, global investment in the oil and gas industry has declined since 2014, so this may not be the best choice if you’re looking for a long-term investment. However, with the right approach to this asset class, you can make a considerable return while protecting your portfolio against inflation. You should also appreciate the riskiness of this class in terms of production issues and potential disasters that can be a public relations nightmare.  

These Are 3 of the Most Important Things You Need to Know about Spread Betting

One of the derivative strategies that speculative investors can use to generate money is known as spread betting. Through spread better, you can bet on whether the price of a particular asset, such as a stock or a commodity, will rise or fall. You do not need to own the underlying asset to engage in spread betting and instead are merely speculating on the direction a particular investment will go.  

Brokers will offer two prices for spread bets: the bid price (low) and the ask price (high). The difference between these two prices is known as the spread. If you select the bid price, this means you believe the price of the asset will rise. Conversely, aligning with the ask price means you think the value of the asset will fall. Brokers profit significantly from spread betting. This means you can place bets without paying a commission, which is not the case with most securities transactions. 

Because this is such a fringe investment (it is not even legal in the US), it is important to understand spread betting before you engage in it yourself. Here are three of the most important things you need to know about spread betting: 

1. An Example of Spread Betting on the Stock Market 

Because spread betting is complicated, the best way to get a handle on it is to look at a practical example and see the mechanics in action. First, let’s imagine a stock market transaction. You purchase 100 shares of Company X at $200 per share. The price of Company X stock closes at $205 per share. Thus, you have a gross profit of $500 on your purchase.  

In this example, however, note that you would need to pay commissions to enter and exit the market, which would eat into profits. Also, you may need to pay capital gains tax on the amount that you earn on the trade. Furthermore, you would need a lot of capital to put down unless you have margin for trade. The entire trade would cost $20,000 outside of the fees and taxes, so for many people, such a purchase would not be feasible.  

Now imagine the same scenario as a spread bet. You can buy shares of Company X at $200. The next step in the process is deciding on a point value. A point is the minimum amount of movement in price and asset may make. Often, one point is one cent. Imagine that you take a buy or “up bet” on Company X at a value of $10 per point. If the stock increases to $205, then you just made $5,000 ($10 per point x 500 points/cents = $5,000).  

Spread betting makes it possible to profit without as large of an upfront investment. Furthermore, you will not need to pay any commissions and might not even owe taxes, depending on your jurisdiction. In addition, you were not required to put down any money to make this gain, unlike in the stock example that required thousands of dollars upfront. Of course, brokers usually require a deposit, but it is usually about 5 percent or so of the possible payout, which is much less than you would need to purchase the stock.  

2. The Major Risk Involved with Spread Betting 

Since much spread betting occurs on leverage, it is possible to make a lot of money with relatively little capital, as in the example above. However, the potential for major returns also means that you could experience major losses. In the example above, the cost of Company X stock could have fallen to $195, in which case you would owe $5,000. And because the broker sets the spread, you do not have a choice in how much it is possible to oh. 

When the market moves against you, the fallout can be catastrophic. When you are earning money, brokers are happy to continue working on leverage because they know that the odds are you will end up experiencing a major loss eventually. However, if you are in the red, brokers will not let you continue bettering until you pay. This means you never have the chance to earn money back, so you need to be prepared to lose when you spread bet.  

To reduce risk in spread betting, speculators can employ a couple of tools, such as a stop-loss order. This order will automatically close out a losing trade once the market passes a set price level. With a standard stop-loss order, the position gets closed at the best available price for the set stop value. Thus, it is possible that your trade can be closed out at a worse level than that of the stop trigger if the market is in a volatile state. In other words, this is not a guaranteed protection.  

You may also opt for a guaranteed stop-loss order, which guarantees the close of a position at the exact value you set regardless of market conditions. You can think of this sort of like the ability to set your own spread rather than settling for what the broker offers. However, this type of insurance is not free and will limit your earnings. Some speculators mitigate risk through arbitrage.  

3. Arbitrage as a Strategy for Mitigating Spread Betting Risk 

Arbitrage involves betting two ways at the same time. The prices of equal financial instruments can vary in different markets or between different companies. Thus, you can buy the same asset low and sell it high simultaneously. Arbitrage takes advantage of market inefficiencies to secure risk-free returns. Opportunities for arbitrage in spread betting are limited because investors have access to so much real-time information that there are few market inefficiencies to be identified.  

However, it is still possible when two companies take different stances on the market while setting their own spreads. Since the top end of a spread from one company is below the bottom end of the spread of another, you can buy low and sell high. Shifts in the market do not affect profits. While people think of this as a risk-free strategy, you still need to execute the trade seamlessly to pull it off and that is after identifying the opportunity.  

Follow These 5 Tips to Control Risk When Investing in Cryptocurrency

One of the most important issues to address in investing is risk tolerance. Among investors, risk tolerance varies according to investing timeline, ultimate goals, and overall comfort with the possibility of losing money. People with high risk tolerance accept that possibility for the chance to increase their money significantly.  

One of the investment opportunities currently available to investors with extremely high risk and chance of reward is cryptocurrency. If you decide to invest in cryptocurrency, you need to do so strategically to minimize the risk involved. However, you also need to recognize that the risk is still very high despite a strategic approach. Some tips to consider as you invest in cryptocurrency include: 

1. Understand the investment you are making.  

One of the biggest mistakes that people make when they invest in cryptocurrency is purchasing coins that they do not completely understand. Usually, this happens because people get swayed by the media and other trends to make impulse decisions. Rather than act impulsively, take the time to understand what makes a particular coin special. Doing this will help you judge whether it has a long-term future or rather will only show a short spike in value.  

All cryptocurrency companies publish white papers that situate their product among others on the market. At the very least, read through these white papers and try to understand the thinking and motivation behind the coin you are interested in. Be sure you can articulate how that particular coin operates and how the company plans to make money. If these questions are not clearly answered in the white paper, that is a red flag. 

2. Set up a cold wallet for your cryptocurrencies.  

When you purchase cryptocurrency, you need a digital wallet to store the coins. Many investors do not understand that there are two different types of digital wallets: hot and cold. The default wallet is a hot one. This type of wallet stores cryptocurrency online so that it is immediately accessible for your needs.  

Beginning investors often choose to make use of a hot wallet, but as time goes by they should start to consider a cold wallet, which stores the coins offline. The benefit of offline storage is that the coins then remain completely protected from hackers—provided that the wallet is set up correctly. You should store the majority of your cryptocurrency in a cold wallet to keep it protected. Any cryptocurrency you might use regularly can go in a hot wallet, but you should recognize that there is some risk involved in this. 

3. Prepare yourself mentally to encounter volatility.  

Cryptocurrency has received criticism for being a fad. While all the signs point to cryptocurrency remaining a major focus of investors, the industry is expected to remain volatile for the near future. Many investors react emotionally to volatility and thus take rash actions that they later regret.  

You can avoid doing this by expecting that volatility. With this expectation in place, you can take a step back and think about your strategy moving forward. In some cases, you will want to hold until the value is restored. In other cases, you should liquidate because the coin is folding. Whichever the case may be, it is important to think about it rationally rather than emotionally. 

4. Diversify your portfolio of cryptocurrency.  

Just as with every investment portfolio, diversification is key when it comes to cryptocurrency. If you invested in just a single type of coin, then you could lose big if something happens to cause that coin to fold. As you consider cryptocurrency diversification, it is important to recognize that more is involved in the strategy than just purchasing a variety of different coins. There are different fundamental categories of cryptocurrency.  

Each of these categories, such as stablecoin, comes with their own unique risks and potential for growth. Think about combining coins from these different categories to create a portfolio consistent with your overall risk tolerance and investment goals. Some coins have less growth potential but will also likely maintain their value. These coins can minimize some of the volatility of your portfolio. 

5. Change your investment strategy when necessary.  

If you have followed the cryptocurrency market, you have likely seen that even a nuanced investment strategy does not always produce the best results. This is because the cryptocurrency market is constantly changing and evolving. In other words, the strategy that works today will not necessarily work tomorrow.  

The investors who make the most money from cryptocurrency investments are those who focus less on developing the perfect strategy and more on understanding the market. Importantly, no one can understand and predict the market perfectly, so be easy on yourself if you make a mistake. Continue to follow the market and make the adjustments necessary to get yourself back on track.