This is an argument against leverage generally because it incurs borrowing costs and is not specific to LETF. Any leveraged strategy, with any rebalance schedule or market timing strategy, would incur these costs. The point of the analysis is whether or not volatility decay occurs in addition to fees and financing costs. Your post amounts to a concession that volatility decay does not occur and that the underperformance of LeTFs is due to the same factors that cause all leveraged strategies to underperform: fees and borrowing costs.nisiprius wrote: ↑Sun Sep 19, 2021 8:14 amI believe "since inception"--all available data, for real-world funds running real money with real expenses is the closest thing to unbiased one can be.skierincolorado wrote: ↑Sun Sep 19, 2021 7:51 am...After factoring in #1 you should get close to 2x for ULPIX anyways. I did in my calculations. Any remaining difference, if any, would be because this is a terrible start date. Lots of analyses blow up when a late 90s start date is picked because it's right before two crashes...
But my whole point is that ULPIX
1) most emphatically did not double the return of the S&P 500, and
2) it was not primarily due to fund expenses, although they probably were responsible for it literally underperforming the S&P 500.
As for "adding back in borrowing cost" I am darned if I can think of any justification for doing that.
Anyone who thinks they can double the return of the S&P 500 by buying and holding a 2X leveraged fund is likely to be severely disappointed. Their expectation will only be met if they can time the purchase for the start of a long, steady bull market.
Why not believe Direxion itself?"The unique nature and performance characteristics" is exactly what we are discussing, and they are unique, and are obviously hard to understand since they are as debated as the Monty Hall problem. Direxion says flatly that a leveraged ETF investor needs to manage their portfolio "actively." That means you have to believe you can time the market to make it work, you can't expect mechanical buying-and-holding to deliver that hoped-for 2X.Q. Are Direxion ETFs Right for You?
A...Definitely not if you are a conservative investor who:
- ...
- Is unfamiliar with the unique nature and performance characteristics of funds which seek leveraged daily investment results
- Is unable to manage your portfolio actively and make changes as market conditions and fund performance dictate.
...
They also say:andQ. If the target index is up 10% for a month, shouldn't I expect to have a 30% gain in my Direxion Bull 3X ETF?
A. No, not typically.Q. Are Direxion Shares ETFs appropriate for buy and hold investing?
A. No, this is not recommended. Leveraged ETFs seek daily investment results and should therefore be considered primarily for short-term trading purposes. [And special-case exceptions]
Proving that LETFs, and all leveraged strategies, underperform their gearing ratio due to borrowing costs is a trivial question and trivial to prove. That wasn't the point of this discussion. The point is does volatility decay occur over long time horizons in efficient markets? And the answer remains no.
I repeat: volatility decay does not exist in the long term in efficient markets. Any underperformance is due to fees and financing costs which are inherent in all leveraged positions, including the proposed solution by typical.investor of fighting the daily rebalance. Your partial analysis has illustrated the point nicely. When we remove fees, we get much closer to the gearing ratio. When we remove borrowing costs, we'll get even closer. The same would be true for literally any levered strategy - not just LETF with daily rebalancing.
It's also worth noting that the proposed solution - fighting the daily rebalance - does nothing to improve our risk adjusted long term return compared to daily rebalancing, and incurs these same borrowing costs. If the excess funds are held in cash, the risk adjusted return of fighting the daily rebalance will be the same as not fighting it. The only benefit is coming from the diversification benefit if the excess funds are held in bonds. Again, obviously diversifying into bonds will improve risk-adjusted return - the benefits of diversification were proved many decades ago and we need not reprove it.
typical.investor has proposed that fighting the daily rebalance would guarantee 2x returns. That certainly is not true after borrowing costs, unless significantly more risk is being incurred, such as taking much more than 2x leverage.