Why Most Investors Should Not Buy Ultra Short ETFs (SDS)

Most investors would be well advised to steer clear of 2X/3X levered or 'Ultra' ETFs. These try to emulate the move of an underlying index or sector and use options or futures to multiply the move by 2 or 3 times.

In the very short term (and I mean days or weeks) this strategy works as expected. For most of these ETFs the tracking error between their stated strategy and the underlying index is minimal. However the way these ETFs are constructed causes them to be horrible long term plays regardless if your bet is right or wrong.

Take the following chart:

The black line shows the Pro Shares Ultra Short ETF (NYSE: SDS) while the Red Line is the S&P 500 index over the past 2 years.

The S&P 500 is down 30% over the past 2 years, therefore you would expect a 2X short ETF to be up 60% over that same period. However as evidenced by the chart even if you guessed correct that the market would go down and hard two years ago, the ETF performed horribly. In that period the Proshares Ultra Short ETF returned a negative 15%.

This same pattern repeats with the vast majority of ultra ETFs. However if your time frame is a matter of days or weeks, then this ETF could make sense (if you guess right).

A long term ‘investment’ where you lose if you’re right or wrong is one I would advise to avoid.