February 12, 2016
Dear Sir: the SEC's proposed rule regarding the use of derivatives by leveraged ETF providers would do significant harm to retail investors in the U.S. if it reduces the number of such ETFs in the marketplace.
Here are some important reasons why the SEC should continue to allow ETF providers to offer 2x and 3x leveraged and inverse ETFs to retail investors:
1. Innovation has been one of the unique features of the U.S. capital markets for more than a century.
Innovations like futures, options, credit default swaps, short selling, leveraged and inverse ETFs, etc. have allowed the markets to expand and now provide retail investors with multiple ways to invest in the markets.
More importantly, these products enable retail investors with smaller amounts of capital to implement sophisticated risk management programs. While big investors can try to hedge risk in their portfolios by employing large hedge fund managers to manage their money, that option is simply NOT available to the vast majority of American investors.
2. On the topic of leverage... The SEC's focus should be on ensuring that the companies offering 2x and 3x leveraged ETFS always maintain adequate cash and reserves at all times to ensure their own safety and stability even in extremely volatile markets.
The fact of the matter is most Americans take on far more leverage with other financial products like mortgages...
Many Americans take on significant leverage (5x) when they buy a house with a 20% downpayment and borrow the balance 80% from a bank. Many more take on 10x leverage if they only make a 10% downpayment on their home purchase. We can all agree it would be silly and unrealistic to restrict the homebuyers' leverage to only 2x by restricting them from buying a house unless they can make at least a 50% downpayment Clearly the ability to use 5x to 10x leverage is an extremely important consideration in keeping the housing market accessible to retail buyers.
3. There is nothing inherently dangerous with 2x and 3x leveraged ETFs as long as proper DISCLOSURE is given to retail investors about the risks involved before they invest in these products.
That can be easily accomplished by establishing some additional Know You Client (KYC) requirements for broker dealers whose clients wish to invest in 2x and 3x leveraged products. This is similar to the additional KYC information required upfront from investors who wish to open Options trading accounts. It allows those investors to acknowledge that they understand the higher risk involved in those types of accounts.
The Bottomline: It is extremely important that all of the above mentioned products and especially 2x AND 3x leveraged and inverse ETFs be allowed to operate without any more uncertainty so that retail investors can use them to build well-diversified portfolios and hedge risk.
Thank you for your kind cooperation.
Sincerely,
AL