Leveraged ETFs, Short ETFs and the 200-day Moving Average
One of the main tenets of how we look at the markets is with the 200-day ma. We’ve published research over the years and most recently again updated this in our book Short Term Trading Strategies That Work which shows that stocks have historically outperformed above the 200-day compared to below it. This then leads to building trading models whereby we’re looking to buy stocks and ETFs on pullbacks above the 200-day moving average and to be short (especially ETFs) below the 200-day.
A few days ago I received a very insightful and well written email from a Battle Plan subscriber who pointed out that both the SSO (2x S&P) and its inverse SDS are both below the 200 day. He asked how does one deal with this situation?
It’s a great question and it’s reality. How does one deal with two ETFs that are supposed to be exactly inverted yet both trading under the same moving average at the same time?
The reality is that leveraged ETFs can and will do this. We first made mention of this last year when DIG and DUG both broke under their 200-day moving averages. Since that time, many analysts have discussed the reasons why these things happen.
Much of the speculation about the reasons leveraged ETFs perform differently is almost correct but I’ve yet to see the full correct answer. An analyst at JPM wrote a report a few months ago and it’s the best I’ve seen on the topic and he comes closest to date. (I apologize – we don’t have permission to reprint it.)
Later next week, I’m going to have David Weilmuenster, who does a good deal of our advanced quantitative research, explain to you exactly why this occurs with leveraged ETFs. David has an advanced degree from MIT and his understanding of complex math as it pertains to trading is very strong. Then after David’s analysis is published, we’ll look at the ways you can take advantage trading with David’s findings.
I will be conducting a 2 1/2 day High Probability ETF Trading Seminar beginning August 14. If you’d like to attend a free online presentation explaining the concepts of High Probability ETF Trading and introducing the 2 1/2 day Seminar coming in early August, please call 1-888-484-8220 ext. 1 or click here to register today.
Larry Connors is CEO and Founder of TradingMarkets.com and Connors Research.