Retail investors have a new investment tool to bet on their favorite shares. However, advisors are warning about the higher risks.
The first single stock ETFs was launched earlier this month, allowed investors to increase their returns in volatile stocks such as Nvidia Corp. and Tesla Inc.
Unlike the traditional ETFs that consist of multiple bonds or stocks, the new ETF will have just one security.
Single stocks ETFs carry the risk of enticing new investors into speculative trades. This is especially when the market is seeing wild swings and faces growing recession risks. The US regulators have expressed concern about such products but finally approved their launch.
The president of investment advisory firm ETF Store, Nate Geraci, said that retail investors should stay away. He added that recommending inverse and leverage exposure to these ETFs is a recipe for disaster.
The Pros and Cons of Single-Stock ETFs
The advantage of single-stock ETFs is using derivatives to deliver 1.5 to 2 times the underlying company’s performance. The inverse versions provide the opposite of daily performance. If a stock falls 5% daily, the inverse ETF will gain 5%.
AXS Investment has launched eight ETFs, including stocks such as Nike Inc., PayPal Holdings, and Pfizer Inc. 85 more ETFs are in the pipeline covering 37 companies. Bloomberg Intelligence estimates this ETF category can mobilize more than $1 billion in assets within a year of launch.
Trading has become easier with the new ETFs as investors can purchase them with a normal trading account instead of for margin trading. This can be purchased along with traditional funds and avoid complex options trading. Also, the risk is only to the extent of investment made, unlike higher exposures on margin trading.
According to SEC Commissioner Caroline Crenshaw, the risks of ETFs could be lower long-term returns for investors. SEC Chair Gary Gensler says that new single-stock ETFs pose a particular risk.
The lower returns could be because of underlying stock performance in a volatile market. The ETFs rebalance daily because a decline one day means an ETF rise of a lower base the next day. For example, the Proshares Short S&P500 targets daily returns that are inverse of the S&P500 index. The S&P 500 was down 10% in the past year, which means the ProShares should be up 10% but in reality, it gains only about 5%.
SEC changed the rule in 2019 -20 and allowed inverse ETFs to launch, making it easier for single stock ETFs.
The single-stock ETFs are more costly. The AXS TSLA Bear daily, which gives the inverse of Tesla’s daily performance, has more than $38 million from investors. It charges 1.15% for expense fees. The other ETFs charge only about 0.7% fees.
Leveraged ETFs are retail traders’ longtime favorites, particularly the ProShares UltraPro QQQ. This ETF delivers three times the daily Nasdaq 100 performance. So far, all these ETFs have tracked indexes, which are less volatile than single-company ETFs.
