Shorting short 3x etf's

Posted by LegendOfLeverage on October 05, 2010 (11:40AM)

This is my first post here on the forum, I have been reading you guys for some time. I've been shorting some of the Direxion 3x as of late. I'm wondering what to expect in terms of getting them called back in the event of a large market downturn. I'm short on both Bulls (FAS, EDC, TNA) and Bears (FAZ, EDZ, TZA) but the positions on the Bears are larger, giving me a net bullish position. My total shorts are a small enough percentage of my equity that I could afford to ride out any large market drops, but I'm worried about the possibility of having the Bears called away from me and not being able to recoup my losses.

I would think that if the market were to tank, people would be buying the Bears, and it would make them even easier to short. I also think that there are a lot of short-sellers that have larger positions than me who would get squeezed, making them easier to short. However, from what I read, this is not the case necessarily. Is anybody able to give me any insight?

Posted by incubus on October 05, 2010 (12:03PM)

Legend, take a look at these four on google charts - http://www.google.com/finance?q=tna+tza+bgu+bgz
If the market moves in a relatively straight direction, the short combo can backfire badly, if you look at the chart from the  bottom in '09 you'll see what I mean.

In a volatile environment the short combo works very well, but not in a directional one.

To me, FAS/FAZ might work with all the problems in financials relative to real estate and consumer credit, I also like the ERY/ERX combo for a short strategy because these ETF's incorporate both oil and gas, which tends to keep the pair rangebound.

Another strategy is shorting VXX/XXV, but my experienc e on all of these shorts has been problematic, as you note, they are frequently called to cover, which tells me the strategy is popular with institutional traders who get first dibs.

If you must play this strategy, don't use any money you can't afford to lose.

Posted by LegendOfLeverage on October 05, 2010 (12:47PM)

The directional movements I've looked at are ugly in the short term, but eventually any directional movement loses momentum, and the decay takes over if one can just hold on long enough. From July 31, 2009 to July 26, 2010,  even though XLF was up 18.8%, FAS was only up 33.67% and FAZ was down 64.84% yielding a net return of 15%. I'm purposefully maintaining a net bullish position since I figure over the long term, things generally have to go up and I can make money off of both the decay and directional bias.

My real concern is just getting the loser called away at the wrong time. In the event of that, my two options are to either try and short it again, or to go long on the other one and ride it back up. These are small positions I have so I'm going to hold on and see what happens.

What you say about ERY/ERX is interesting though, I can see they exhibit nearly as much decay as FAS/FAZ without wide swings. I guess were unlikely to see Exxon, Chevron, and Conoco all go to zero in a few months the way we did with AIG/Citi/Lehman/Bear.

Posted by OldFart on October 05, 2010 (01:01PM)

owl outlined the short FAS/FAZ pair a year ago - search the Forum for his posts. I have been short the combo and individual components several times, so far so good, never been called to cover the short. Just last week was short 300 FAS and short weekly puts, got assigned, thinking about the same thing after the run today

Posted by sjscud on October 05, 2010 (08:32PM)

Hey OldFart,
I am intrigued by your strategy of shorting a stock and selling puts to capture the time decay. Do you have any specific rules you follow to enter and exit?  It sounds like you have used this strategy often so I would be interested in learning from your experience.

Also, what has been your win/loss performance with this trade?

Posted by incubus on October 06, 2010 (12:10AM)

I forgot a detail in the charting.
The Direxion ETF's periodically pay out large dividends, last year they each paid roughly a 10% dividend in November for the Bull ETF's..

This effects chart comparisons, but more importantly, that dividend is a loss when you're short.

Posted by OldFart on October 06, 2010 (09:38AM)

sjscud said: Hey OldFart,
I am intrigued by your strategy of shorting a stock and selling puts to capture the time decay. Do you have any specific rules you follow to enter and exit?  It sounds like you have used this strategy often so I would be interested in learning from your experience.

Also, what has been your win/loss performance with this trade?

sis - I think or this strategy, let's call it a covered put - CP as a sister strategy of CCs where CC is neutral/bullish and the CP - neutral/bearish. I used is from time to time, earlier this year with  BP and currently with FAS weeklies. No specific rules, just if you are bearish on some stock, I would consider it

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