An inverse exchange-traded fund (or ETF) seeks to offer the inverse return of an underlying index over a set period of time. They are used by investors to safeguard (or hedge) their portfolios as well as to profit from declining prices.
While equity indices may generally move upward as rising economies and new technologies push up company value, this overall trend is punctuated by regular, and often dramatic reversals downward, which is where an inverse ETF can help.
- ProShares UltraPro Short (SQQQ)
- ProShares Short S&P 500 (SH)
- ProShares Short Russell 2000 (RWM
- ProShares UltraShort S&P 500 (SDS)
- ProShares UltraPro Short S&P 500 (SPXU)
Unlike an ETF that tracks the performance of an index like the S&P 500, which rises in value when the value of the index rises, an inverse ETF would rise in value when the index’s value falls.
If your portfolio includes equities in the S&P 500, for example, you may be concerned about the index’s value dropping. Investing in an inverse S&P 500 ETF could help shield you from those losses. If the S&P 500 falls in value (together with the shares you own), your investment in the inverse ETF should rise in value, limiting your losses.
However, when the S&P 500 rises in value and continues to rise in value, your investment in the inverse ETF will fall in value, potentially resulting in severe losses.
While an ETF tracking a particular index typically owns stock in the firms that make up the index, an inverse ETF generates the opposite performance by using derivative contracts (swaps or futures).
Inverse ETFs are a terrific method to take a short position against the market without having to deal with the problems and risks of short selling. All you have to do is buy the ETF and hold it for a profit, and the ETF will perform the shorting for you.
Because of the mechanics of ETFs in general and short selling specifically, the numerous inverse ETFs available offer a variety of attributes that appeal to certain types of bearish traders. It’s crucial to understand how inverse ETFs function so you can be sure you’re using the proper one for your bearish trading strategy.
Here are 5 inverse ETFs considered top of the game:
ProShares UltraPro Short (SQQQ)
Investors can get inverse exposure to the NASDAQ 100 technology index using the ProShares UltraPro Short, or SQQQ. The ETF is structured by using swaps on NASDAQ 100 shares, swaps on the NASDAQ 100 index itself, and futures. SQQQ is a 3x leverage inverse ETF that should only be held for less than one day, else the compounding effect will kick in.
ProShares Short S&P 500 (SH)
SH mimics the price action in the S&P 500 by using derivatives such as stock options, swaps, and futures. SH is a very liquid exchange-traded fund. Although it has a hefty charge, this is offset by the fact that it is meant for a limited holding period, as it should only be kept for a day. Traders that utilise SH should consider the cost of buying and selling the ETF, as the charge will have little influence if the ETF is used tactically.
SH is great for placing rapid bets against the American stock market, especially during periods of local or foreign turmoil or in the aftermath of poor performance.
ProShares Short Russell 2000 (RWM
RWM employs ETFs and index swaps to bet against the Russell 2000 small capitalization index. The Russell 2000 index is more unpredictable than the S&P 500, and is especially sensitive to domestic political uncertainties and shifts in tax and labour policy in the United States.
The RWM has hefty fees, but is only supposed to be held for a single day, and holding it for more than that will result in compounding. RWM is suited for quick tactical wagers against the Russell 2000 index because of its strong liquidity and tight spreads.
ProShares UltraShort S&P 500 (SDS)
The S&P 500 is also the basis for the ProShares UltraShort S&P 500, or SDS. It is structured similarly to the ProShares Short S&P 500 (SH) ETF, and provides equivalent exposure with 2x leverage. Because of the increased leverage, investors can profit more from brief and dramatic downturns in the American stock market.
ProShares UltraPro Short S&P 500 (SPXU)
SPXU is similar to the SH and SDS ETFs, but provides investors with exposure to a 3x leverage short position on the S&P 500.
The highly leveraged character of this ETF subjects investors to large fluctuations in profitability, but the ETF’s extremely high liquidity allows investors to swiftly initiate and exit trades against the American equities market.
All 5 ETFs are all designed to give traders a short inverse exposure to specific areas of the American economy and equities markets, and are not intended for long-term trading positions. Rather, for short-term profits. Increased global tensions, internal political conflicts, and shifts in domestic tax and labour legislation are among the prominent reasons for using these ETFs.
When utilising leveraged inverse ETFs, investors should be vigilant because losing positions can quickly turn negative, especially during times of high volatility, when these inverse ETFs are most commonly used.
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