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How to Profit From the Decline Using These ETFs!

Tuesday, March 3, 2009 | Chris Rowe

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Don't be afraid to take bearish positions here.  The market probably goes at least 15 - 20% lower, and that might hit some of the stocks you own by 50% (so don't just focus on the possible percentage decline of the general market when considering your exposure to more downside). 

Although I typically like to use in-the-money put options to play the downside, the prices of options are going to be expensive as people become more fearful (due to increased volatility) and are willing to pay more for them.  So it makes sense to start looking to the Short ETFs, the Ultra Short ETFs and, if you really want to dance with the devil, the newer Triple Short ETFs. 

If you're just day trading the downside, and don't even really have bullish positions (that are getting hammered right now) then you might be rolling with the devil on these Triple Short ETFs, as they are incredibly volatile.  You can make a fortune or just get your butt handed to you with a ribbon on it - "nice doin business wit ya."  If you have a portfolio with WAY TOO MUCH bullish exposure (and you are getting hammered right now) then I wouldn't even call the Triple Short ETF trade a dance with the man downstairs.  Instead, it just might be your savior in an otherwise bloody market. 

What are the Triple Short ETFs?

I'm sure you have already guessed what this is all about.  There are 300% leveraged bullish ETFs and there are 300% leveraged inverse ETFs.  For example:

  • Large Cap (Russell 1000) Bull 3X Shares (BGU)
  • Small Cap (Russell 2000) Bull 3X Shares (TNA)
  • Energy (Russell 1000 Energy) Bull 3X Shares (ERX)
  • Financial (Russell 1000 Financial Services) Bull 3X Shares (FAS)
  • Large Cap Bear 3X Shares (BGZ)
  • Small Cap Bear 3X Shares (TZA)
  • Energy Bear 3X Shares (ERY)
  • Financial Bear 3X Shares (FAZ)

Let's take FAZ for example.  It seeks to replicate, net of expenses, 300% of the inverse daily performance of the Russell 1000 Financial Services Index.  So if the Russell 1000 Financial Services Index declines by 10%, FAZ should increase by about 30% ... and vice versa.

Let me stop here for a second. 

I would feel incredibly irresponsible if I didn't reiterate my warning about dancing with the devil.  Most investors conceptually "get" leverage.  You don't need me to explain that FAZ is three times as risky.  But once you actually feel the sting a couple of times (and if you trade anything like this, odds are, that time will come at some point) you will take on a whole new respect for my warning.  This is not a game.  You can lose money - big time.  It's kind of the same idea that using a medicine (even if it's used responsibly) can harm or kill someone.  But medicine can also save your life or make you well again. 

This isn't just some warning so I can say I told you so later.  I care, and I want to show you how to hedge effectively.  But you have to know that this is the type of thing that can make you massive profits when you trade it right, and that alone can lure you in, playing 5 times that amount, and that's when the trade goes the wrong way. 

It's really easy in a market like this, one that has massacred so many trading accounts, to start to visualize anything as your great hope, the answer to your prayers, the lifeline that will pull you out of this mess and so on.  DON'T DO IT.  If you've lost 60% of your portfolio, you shouldn't expect to make it right back within 12 months.  While this is definitely very possible, it's not if you take more losses you can't recover from.  So use the tool to hedge in this latest market decline.  Be smart, and don't overexpose yourself to these things. 

Having said that, I'll tell you that you've got to have bearish exposure in a market like this.  I also don't want to scare you out of profits.  I wouldn't be so quick to exit these ETFs either if they move in the wrong direction.  Because while the market may snap back for a quick rally, it's going to go lower than today's levels.  So what do you do?  You take a comfortable position and sit, as opposed to taking a position that's too big for your nerves and then limiting the downside too quickly.  Don't try to use it for ultra-fast recovery. 

Now what about guidance?

I've been writing bearish articles (once again) since the recent top in January when I wrote "WARNING: Sober Up in '09 - Be Prepared For Decline!"  You can read all past Tycoon Report Articles by clicking here.  I can give you at least some sort of guidance on the likely direction of the general market, but can seldom be very specific on sector activity or trading ideas.  But I will try to continue giving updates on the general market direction and condition when I write on Tuesdays.  But for instant alerts when any of the broad sectors (about 45 different sectors) make significant changes in direction and condition, you can't find a better place than Sector Hunter. 

My options trading service The Trend Rider is a place where you'll get my interpretation of the market, and you'll get the ideas that I generate using Sector Hunter and a number of other tools.  I decide what ideas to recommend based on the data that I gather.

Sector Hunter will give the sectors that are about to make a major move, and it will suggest several possible ways to play the sector activity that's about to occur. 

Both services are great for different reasons.  Basically, one involves human interpretation and opinion (TTR) which has its upside, and the other bypasses human interpretation and opinion (Sector Hunter) which has its upside. 

No matter what you do, you have got to be willing to play the downside of this market.  So in closing, I'll list some other inverse sector ETFs for you.  The following are "Ultra Short" ETFs meaning they seek to replicate, after expenses, 200% of the inverse daily performance of the sectors listed:

  • ProShares UltraShort Basic Materials (SMN)
  • ProShares UltraShort Consumer Goods (SZK)
  • ProShares UltraShort Consumer Services (SCC)
  • ProShares UltraShort Financials (SKF)
  • ProShares UltraShort Health Care (RXD)
  • ProShares UltraShort Industrials (SIJ)
  • ProShares UltraShort Oil & Gas (DUG)
  • ProShares UltraShort Real Estate (SRS)
  • ProShares UltraShort Semiconductors (SSG)
  • ProShares UltraShort Technology (REW)
  • ProShares UltraShort Utilities (SDP)

Happy trading.  Be safe!

(Please let us know what you think about Chris Rowe's article.)
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“Profit from the Trend”

Chris Rowe
Chief Investment Officer
The Trend Rider


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17 Comments

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  1. heather (1 year ago) Is this Spam?

    Thank you so much, you have taught me so much already but I still learn more. We really appreciate all you do,

    H Victoalia

  2. Fred (1 year ago) Is this Spam?

    Thanks Steve,



    I never knew that.

  3. Fred (1 year ago) Is this Spam?

    How very clear. I wish I had read this when I first received it and made a downside play at that time. But I'm sure there will be many more opportunities to do that in the future. I really appreciate

    Chris' clarity.

  4. Martyn (1 year ago) Is this Spam?

    The Market Commentaries have been bang on but until this day, it would have been better for me to leave my cash in fixed interest deposits. Its been a wee bit disappointing because I expected the 80% thing but it doesn't apply at this time. Have only been with TR 13 months and will remain a member for the next 12 months at least.

  5. Sonia (1 year ago) Is this Spam?

    Marion: Thank you for your comments. I, for one, appreciate knowing the truth and especially if it is coming from a paying TR subscriber. thanks again! - Sonia

  6. marion (1 year ago) Is this Spam?

    Oh ya, that's right I already have a subscription to TR and I did exactly what I described in my previous post and I'm down money since January. Hmmmm. What good is it paying big $s to someone who supposedly knows the direction of the market if they don't know how to make money from such knowledge. And please don't feed us the stuff about 80% accuracy. Instead, tell us you average over the last 12 months after removing your recommendations made during the "easy call" fall we had in '08. The period from late Sept./08 to late Nov./08 was a no brainer where anybody with even basic market knoweldge knew enough to stick to buying Puts in over inflated stocks sensitive to economic declines. Tell us your % success rate from Jan./09 to now since you obviously had the advantage of knowing the direction of the market, something for which I give you tremendous credit for calling. Just too bad you couldn't have made TR subscribers money from your insight.

  7. marion (1 year ago) Is this Spam?

    Given your insightful knowledge/announcement (before it actually happene)that we would be in a significantly declining market for several months from the "January top" you pinned, your recommendations must be making a a ton of money your Trend Rider subscribers. I'm sure all of us Tycoon Report readers would be interested to know just how profitable your TR recommendations have been since your amazing call way back in January (i.e. while many were saying an Obama rally was in store for the first few months of '09). Perhaps you could give us an example of how much someone investing $10,000 would have made thus far if they had followed your recommendations to the letter by buying 1 option contract/option recomendation and 100 shares/stock recomendation. I know I'd love to know. Maybe more of us would pay the hefty subscription fee if you could show us this as evidence of the kind of returns we could get by subscribing to TR.

  8. jester112358 (1 year ago) Is this Spam?

    Good points from the other comments. From a mechanistic standpoint, these trading vehicles all have a lot of slippage which originates from their managers having to roll over all the PUTs daily. So, I don't feel these are a good way to hedge a long portfolio. Remember, the ETF managers also have to pay a premium on PUTs due to the high volatility-which is buying stock insurance is a losing battle. A better hedging approach in this market is to sell call credit spreads or put debit spreads (slightly out of the money) on the worse sectors like financials etc. This is a more complex strategy and also requires rolling the contracts monthly or so or when the underlying moves way out of the money, but it eliminates the effect of time decay and premium pricing since both the contracts you are short and off-setting ones you are long on the option chain decay in value at the same rate (giving you great staying power with minimal drawdown), and their volatility track each other. The only uncertain variable is picking direction. This is easy if you are hedging longs-pick the opposite direction and the longest time duration available. Roll over the contracts when it moves one or two standard deviations from your strike-take profits etc. Rinse and repeat.



    Right now, I'd avoid initiating hedges as the possibility of major short covering and a bear rally is strong. Wait until such a rally occurs then start hedging a little at a time. That's also when longs should be selling covered calls-after a big rally day or week.

  9. Sonia (1 year ago) Is this Spam?

    I was testing my login before this comment but know that I know that the "mike is on" I can tell you Chris that I am a complete newbie to option trading but I have been thinking about testing the waters for a while since I have heard that they are a good vehicle to recover from losses in one's stock portfolio and mine has taken a severe beating, and in the aftermath the poor thing is bleeding by the side of the road begging to be revived and nursed back to health! That said, I want to say that I have NEVER posted a comment anywhere regarding anything relate to options as I know nothing about them, so I am incredibly surprised to be posting one here, particularly because not knowing anything about ETFs, or UltraShort ETFs nor the Super duper of them all, here I am posting a comment about them and letting you know that I understood PERFECTLY what you wrote! And I really enjoyed your "dancing with the devil" remarks, tee hee hee. Now, I think that I am a fairly intelligent person but it takes a very knowledgeable and excellent writer (this is your queue to blush) to describe these vehicles and have someone as new to the field as me understand what he wrote. I have to say that after reading the caveat comments and warnings of using these ETFs as long term vehicles, I still like them and the notion of day trading is beginning to appeal to me for 2 important reasons: 1) I have a very short patience threshold; and 2) I have an even shorter attention span. The comments posted are also very good, with a special honorable mention to Craig who also wrote in a clear manner which I enjoyed very much and I am highly anticipating reading the articles that he has offered to send you :-)) Lastly, I just signed up for the free Tycoon Report, and if money permits I would very much like to become a paying subscriber to Trend Rider or Sector Hunter, or both! So, if converting newbies to subscribers was one of your goals today, you have achieved that goal my friend. Thanks again for a great article and Happy trading to all of you guys! - Sonia

  10. Sonia (1 year ago) Is this Spam?

    Testing. . .

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