The Joys And Pains Of 3X Returns

By Gregory S. Davis | February 17, 2009 AAA

The last thing on the minds of most investors these days is the desire to use leverage to improve investment returns. And that's good news. So, to maximize returns and increase exposure to various slices of the market, investors can consider using exchange-traded funds (ETFs) designed to return three times the yields of the underlying investments.

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Triple The Upside/Downside On Financials
The Direxion Financial Bull 3X Shares ETF (NYSE:FAS) is designed to return three times the performance of the Russell 1000 Financial Services Index ("Financial Index"). The underlying financial services index is a capital weighted index of financial service providers ranging from large capitalization banks, like Wells Fargo (NYSE:WFC) and Goldman Sachs (NYSE:GS), to insurance providers, like Aflac (NYSE:AFL) and Allstate (NYSE:ALL). True to form, the FAS ETF carried out its mission and posted a negative return in slight excess of 64% for year-to-date ended February 11, while the Russell 1000 Financial Services Index declined approximately 22% over the same period. (These funds seem simple, but more goes on behind the scenes. Read Dissecting Leveraged ETF Returns to learn more.)

How Does It Work?
The FAS ETF will invest a minimum of 80% of its net assets in long positions of the individual securities that make up the Financial Index. The fund also invests in financial instruments that provide leveraged and unleveraged exposure to the Financial Index, thus, creating the ability for returns of the underlying index to be tripled. The balance of the net assets are held in money market instruments.

Can I Play Downside?
I knew you'd ask! The other side of the coin offers investors the opportunity to benefit from the downward slide of financials in the Direxion Financial Bear 3X Shares ETF (NYSE:FAZ). The FAZ fund is designed to return the inverse of the Financial Index by creating short positions as opposed to holding long positions in equities, like its Bull friendly sister, the FAS ETF. The FAZ ETF is up approximately 22% year-to-date ended February 11. (For more on using inverse ETFs when the market is down, be sure to read Inverse ETFs Can Lift a Falling Portfolio.)

Other 3X Options
ETFs that offer three times the up (Bull) and three times the down (Bear) also are available as sector-specific funds. These include: the Direxion Technology Bull 3X Shares (NYSE:TYH), the Direxion Technology Bear 3X Shares (NYSE:TYP), the Direxion Energy Bull 3X Shares (NYSE:ERX) and the Direxion Energy Bear 3X Shares (NYSE:ERY).

Final Thoughts
Given the volatility in the market, only investors who have the time to pay attention to these investment vehicles should consider allocating a small portion of their investments into the three- times returns ETFs. The upside potential looks explosive if you're on the right side of the market movement. However, beware of the compounded negative returns on the other side.

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