Hi I work as a professional trader in Stockholm, Sweden and yes, I know this topic already has been discussed before, but I still got a few things I would like to ask you about. Before I ask anything I can add this: I can short both of these in size without any large probability of getting called on the stock loan. I can borrow at a 4-5%. Are not these ETF:s just a path-dependent option with expiry towards infinity and eventually they both will drift towards zero, given that the underlying index won't drift in one direction for infinity. The two components that will drag down the value of both of these are volatility and the holding period for the position. Am I correct in my statement? If this is correct, then there are no free lunch, shorting both of these at the same time will just be a sort of straddle strategy with a time decay (theta) and short gamma? Shorting both will be good in a high volatility market with no drift and bad when the volatility is low and the underlying is drifting. More or less how the situation is currently. By shorting them and/or using some kind of options, is there any good risk/reward strategy one can use to isolate the rebalancing factor, fees, and other costs dragging the etf:s lower? Been thinking about call spreads, buying puts or somethng similar.. Has anyone tried something like this? Please join the discussion and come up with your thoughts about this topic!
Short both FAS and FAZ is not an arbitrage. The reason is simple, you can financial engineering FAS and FAZ use derivatives. If you think shorting FAS and FAZ at the same time is arbitrage, then there is a corresponding derivative arbitrage opportunties. There is not.
I ran a test for FAS/FAZ for the last year. Assume you use 100000 of your overnight buying power for each FAS and FAZ, and you short both at the beginning of each month, and cover the last day of the month, here is what you get: Month Total Entry Exit Shares Profit Jan-09 18572 FAS 129.44 45.85 800 66872 FAZ 343 504 300 -48300 Feb-09 23206 FAS 45.83 24.5 2200 46926 FAZ 500.7 619.3 200 -23720 Mar-09 15400 FAS 19.85 27.5 5000 -38250 FAZ 743.4 206.9 100 53650 Apr-09 18670 FAS 29.7 40.65 3400 -37230 FAZ 194.9 83.1 500 55900 May-09 18580 FAS 39.1 50 2600 -28340 FAZ 86.1 47 1200 46920 Jun-09 7793 FAS 52.28 46.21 1900 11533 FAZ 44.9 46.6 2200 -3740 Jul-09 1033 FAS 45.85 57.57 2200 -25784 FAZ 47.1 34.33 2100 26817 Aug-09 -80 FAS 62.12 79.15 1600 -27248 FAZ 31.66 23.17 3200 27168 Sep-09 235 FAS 68.1 82.13 1500 -21045 FAZ 26.39 20.79 3800 21280 Oct-09 8261 FAS 72.6 67.59 1400 7014 FAZ 23.23 22.94 4300 1247 Nov-09 3240 FAS 68.95 75.43 1500 -9720 FAZ 22.47 19.59 4500 12960 Dec-09 2288 FAS 76.01 74.13 1300 2444 FAZ 19.4 19.43 5200 -156 Jan-10 3084 FAS 77.92 69.4 1300 11076 FAZ 18.44 19.92 5400 -7992 Feb-09 3724 FAS 72.42 74.96 1400 -3556 FAZ 19.05 17.65 5200 7280 Grand: 124006 That is a return of 124% on a 100000 account (with an overnight buying power of 200000, even though it should be more than that, to account for drawdowns).
Some good analysis there Telozo, however I think it's important to note the following: Possible returns: 1. The 124% return (over 1 year and 2 months) that you cite is probably higher than what could be achieved during a period when volatility remains below the levels seen between January 2009 and June 2009. For example, the six-month return for July 2009 to December 2009 was $14,977, or roughly 30% per annum. 2. I note the low or negative returns in July, August and September 2009. It is possible that the conditions seen in those months (steadily rising FAS) could exist in the future. Margin and risk: 3. FINRA changed the margin requirements for leveraged ETFs in late 2009. If we assume 2:1 overnight margin on a $100k account, then you could probably only hold $66,666 of a long 3x ETF and $66,666 of a short 3x ETF. This would reduce the returns earned on this strategy. 4. If and when equities fall significantly (eg. Jan, Feb and March of 2009 from your example), would you have enough buying power to withstand the large losses on the short FAZ position? Notwithstanding the high monthly returns, the short FAS position may not earn enough on a day-by-day basis to compensate for the loss on FAZ.