If you want to be neutral, stay dollar neutral. Every dollar not hedge for the next day, creates a theoretical long or short position unhedged.
Actually that's not true either - they have built in stop-loss provisions whereas the swap counterparties can use the proceeds from the winning pair to offset massive losses in the losing pair in the event of a "crash up" or something similar. They will never go to zero - but they will approach zero, and with a reverse-split average of greater than one per year (and starting NAV at $60) they are already clearly demonstrating that they both (long & short) decay quite quickly. They can never go to infinity because they will be halted to the up-side to offset downside losses. They can never go to zero because they would trigger circuit breakers... I suppose you could have a >33.33% move in an underlying index that would hold true over the course of a few days. In that case it would wipe out a 3x levered ETF however the likelihood of such an event is very small. In order for that to happen all of the underlying stocks would need to move accordingly as well as the index would need to be re-priced accurately and it would need to hold, not just be a "flash" type situation.
If you go to the Direxion web site you can get a download of the composition of the FAS and the FAZ - http://www.direxionshares.com/etfs It is of some interest to note that there is a big difference in the asset composition of these 2 ETF's The FAS shows a large array of individual financial stock holdings, some large Russell 1000 swap agreements and some short term cash instruments. The FAZ is just some shorted Russell 1000 swap agreements and some short term cash instruments. There is no portfolio of stocks?? Anyone know why the difference? Also not clear on the mechanics of how these portfolios are rebalanced each day. Looks like it is much simpler for the FAZ. They just buy or sell more of the swap. However, for the FAS it looks like they might do something with the individual stocks that compose the Russell 1000. What I am trying to get a handle on is on very volatile days how the rebalancing would effect the underlying stocks in the Russell 1000 or the FAS and FAZ itself. Seems like there would be some effect on the open of the next day.
Because when you are short something you don't own it you own the cash proceeds. notice FAZ owns cash and short swaps while FAS owns a bit of cash but also stocks (for creations & redemption) as well as long swaps. If FAZ held any stocks it would reduce it's short-exposure. Re: Re-balancing - I have been out of that scene for a while but there was a time when 80% of the ETF had to be in stocks. That has changed so now they keep enough inventory on hand to handle creates & redeems only - which makes the markets much more stable and really doesn't impact the individual investor at the close with regards to re-balance.
I haven't optimized that yet, but you could do it on a relative basis so whenever their basis point tracking error exceeds 20 basis points negative compounding sets in and you'll want to cover the laggard and short the outperformer.
you're over my head there rmorse said: If you want to be neutral, stay dollar neutral. Every dollar not hedged for the next day, creates a theoretical long or short position unhedged. this is what I've been trying to do, trying to stay dollar neutral, but they seem to get away [5-10%] very quickly... marc
Try only end of day, near the close. I'm assuming we are talking about small adjustments. If it's a large position, consider a vwap order from 3:30 - 3:59, so your not trading at the close. You can get large MOC orders with odd pricing. You will have to be comfortable with the risk of not adjusting during the day. If your not over leveraged, it's what I would do.
rmorse, yes, I'm basically talking about smaller adjustments. I'll try adjusting near the end of the day. thanks, marc
Still trying to get my head around FAS/FAZ I looked at the follow data 12/13 FAS 58.34 FAZ 42.52 Russell 696.09 1/18 77.17 30.89 766.49 The FAS has gone up 32.27% The FAZ has gone down 27.35 % The Russell has gone up 10.11% Would have expected FAS up 30.33% and FAZ down 30.33%? Is this the slippage you guys are playing? Would you expect in a down market for the FAZ to go up by more than the FAS would go down?