ETF and Stock Picks Based on Yesterday's Relative Strength Analysis
Today, we have a couple of premium stock picks for paid subscribers bucking the trend of an increasingly bearish market. However, we could find no bullish ETF Picks, so instead we’re presenting a snapshot of Double Short (Leveraged) ETFs to all subscribers. The futures are bouncing this morning. But, last hour of trading today will tell us a lot more. Up-market days that fade into the close are the telltale hallmark of bearish market conditions.
These can be tough to trade. We discount 6-Mo Relative Strength, Long Term Trend and Long Term Market Forecast indicators (which act as a drag on total Tailwind %). These ETFs trend not to trend for months at a time with the exception of very large market downturns, and shorter term indicators are more important. You’ve heard the expression "The market takes the stairs up and the elevator down."
So, the relative position of the TW % is what matters. TW% scores above 40% are fair game. We focus on Very Bullish Money Flow & Bullish Intermediate Market Forecast indicators. In addition, my line in the sand is the 21-day EMA, setting stop losses 2 ATR below that exponential moving average. If this is gibberish to you, it probably means this is too deep-end-of-the pool for consideration. Best course of action is sit on your hands and wait out the downturn. However, I provide an educational primer below on leveraged short ETFs in case you’d like to try your luck in a paper-money account.
Trading double short ETFs (also known as inverse leveraged ETFs) in bearish market conditions offers distinct opportunities and risks compared to traditional long-only trading. Here are some key points to consider when advising readers about trading these types of ETFs:
1. Purpose of Double Short ETFs
Definition: Double short ETFs aim to deliver twice the inverse of the daily performance of the index or asset they track. For example, if the index falls by 1% in a day, a double short ETF would aim to gain 2%.
Use Case: They are primarily used for hedging purposes or to profit from declines in the market or specific sectors.
2. Compounding Effects
Daily Resets: These ETFs reset daily, meaning they aim to achieve their goals strictly on a day-to-day basis. This leads to compounding effects that can significantly distort returns over periods longer than a day, especially in volatile markets.
Impact of Volatility: In highly volatile markets, the impact of daily rebalancing can lead to return patterns that are significantly different from the expected two times inverse of the cumulative return of the underlying index over more extended periods.
3. Risks
Amplified Losses: Just as gains are amplified, losses are too. If the market moves against the position, losses can accumulate quickly, particularly because the leverage is reset daily.
Market Timing: These ETFs require precise timing given their sensitivity to daily market movements. Misjudging the market's direction can lead to substantial losses.
4. Trading Strategies
Short-Term Focus: Due to their daily rebalancing, double short ETFs are generally more suitable for short-term trading strategies. Holding these instruments for long periods can be risky due to the potential for decay in value from daily rebalancing effects.
Monitoring and Management: Active monitoring and management are crucial when dealing with these ETFs. Traders should be vigilant about market news, economic indicators, and other factors that could influence the market’s direction.
5. Comparisons with Long-Only Trading
Market Expectations: Long-only trading typically benefits from bullish market conditions and long-term growth in asset values. In contrast, double short ETFs are beneficial in bearish conditions but require careful handling due to their structural complexity and inherent risks.
Investment Horizon: Long-only positions can be more forgiving over longer periods despite short-term volatility, whereas double short ETFs are predominantly tactical tools best used over shorter periods.
6. Regulatory and Tax Considerations
Taxation: The gains from ETFs can be taxed differently depending on the jurisdiction and the specific product structure. Traders should be aware of potential tax implications of frequent trading in these instruments.
Regulation: Understanding any regulatory limits or reporting requirements related to trading leveraged and inverse ETFs is also essential.
Double short ETFs can be profitable in bearish conditions, but they require an active trading approach and a good understanding of their complexities and risks. Education and caution are paramount.
Premium Stock Picks
Keep reading with a 7-day free trial
Subscribe to Stock Cheat Sheets to keep reading this post and get 7 days of free access to the full post archives.