Hostname: page-component-78c5997874-j824f Total loading time: 0 Render date: 2024-11-15T04:57:15.997Z Has data issue: false hasContentIssue false
  • English
  • Français

Solving the Return Deviation Conundrum of Leveraged Exchange-Traded Funds

Published online by Cambridge University Press:  03 January 2013

Hongfei Tang  and
Xiaoqing Eleanor Xu
Hongfei Tang
Affiliation:
hongfei.tang@shu.edu
Xiaoqing Eleanor Xu
Affiliation:
xuxe@shu.edu, Stillman School of Business, Seton Hall University, 400 S Orange Ave, South Orange, NJ 07079.
Get access Rights & Permissions [Opens in a new window]

Abstract

The large deviation of the actual return of a leveraged exchange-traded fund (LETF) from the leveraged multiple of the underlying index return has drawn considerable attention from investors, regulators, and the financial media. Despite this attention, the sources and fundamental determinants of the LETF return deviation remain unidentified. This study constructs a clear, unified, objective, and executable framework that addresses the behaviors, sources, and determinants of the LETF compounding and noncompounding deviations. Our theoretical predictions and empirical results hold the promise of guiding investors, regulators, financial advisors, and portfolio managers toward a thorough understanding of the return behavior of LETFs.

Type
Research Articles
Information
Journal of Financial and Quantitative Analysis , Volume 48 , Issue 1 , February 2013 , pp. 309 - 342
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2013 

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

References

Ackert, L. F., and Tian, Y. S. “Arbitrage and Valuation in the Market for Standard and Poor’s Depositary Receipts.” Financial Management, 29 (2000), 71–87.CrossRefGoogle Scholar
Amihud, Y., and Mendelson, H. “Asset Pricing and the Bid-Ask Spread.” Journal of Financial Economics, 17 (1986), 223–249.CrossRefGoogle Scholar
Amihud, Y., and Mendelson, H. “The Effects of Beta, Bid-Ask Spread, Residual Risk, and Size on Stock Returns.” Journal of Finance, 44 (1989), 479–486.Google Scholar
Avellaneda, M., and Zhang, S. “Path-Dependence of Leveraged ETF Returns.” Working Paper, Courant Institute of Mathematical Sciences (2009).CrossRefGoogle Scholar
Brennan, M. J., and Subrahmanyam, A. “Market Microstructure and Asset Pricing: On the Compensation for Illiquidity in Stock Returns.” Journal of Financial Economics, 41 (1996), 441–464.CrossRefGoogle Scholar
Charupat, N., and Miu, P. “The Pricing and Performance of Leveraged Exchange-Traded Funds.” Journal of Banking and Finance, 35 (2011), 966–977.CrossRefGoogle Scholar
Cheng, M., and Madhavan, A. “The Dynamics of Leveraged and Inverse Exchange-Traded Funds.” Journal of Investment Management, 7 (2009), 43–62.Google Scholar
Curcio, R. J.; Lipka, J. M.; and Thornton, J. H. Jr. “Cubes and the Individual Investor.” Financial Services Review, 13 (2004), 123–138.Google Scholar
Eleswarapu, V. R. “Cost of Transacting and Expected Returns in the Nasdaq Market.” Journal of Finance, 52 (1997), 2113–2127.CrossRefGoogle Scholar
Elton, E. J., and Green, T. C. “Tax and Liquidity Effects in Pricing Government Bonds.” Journal of Finance, 53 (1998), 1533–1562.CrossRefGoogle Scholar
Hasbrouck, J., and Seppi, D. J. “Common Factors in Prices, Order Flows, and Liquidity.” Journal of Financial Economics, 59 (2001), 383–411.CrossRefGoogle Scholar
Keim, D. B., and Madhavan, A. “The Upstairs Market for Large-Block Transactions: Analysis and Measurement of Price Effects.” Review of Financial Studies, 9 (1996), 1–36.CrossRefGoogle Scholar
Kraus, A., and Stoll, H. R. “Price Impacts of Block Trading on the New York Stock Exchange.” Journal of Finance, 27 (1972), 569–588.CrossRefGoogle Scholar
Lu, L.; Wang, J.; and Zhang, G.“Long Term Performance of Leveraged ETFs.” Available athttp://dx.doi.org/10.2139/ssrn.1344133 (2009).CrossRefGoogle Scholar
Newey, W. K., and West, K. D. “A Simple, Positive Semi-Definite, Heteroskedasticity and Autocorrelation Consistent Covariance Matrix.” Econometrica, 55 (1987), 703–708.CrossRefGoogle Scholar
Shum, P. M. “The Long and Short of Leveraged ETFs: The Financial Crisis and Performance Attribution.” Working Paper, York University (2011).CrossRefGoogle Scholar
Whaley, R. E. “Understanding the VIX.” Journal of Portfolio Management, 35 (2009), 98–105.CrossRefGoogle Scholar
White, H. “A Heteroskedasticity-Consistent Covariance Matrix Estimator and a Direct Test for Heteroskedasticity.” Econometrica, 48 (1980), 817–838.CrossRefGoogle Scholar