ETFs that raise red flags

ETFThe number of ETFs has ballooned in recent years, but not all are created equal. Click the chart for more data on ETFs. by Ken Sweet, contributing writer


NEW YORK (CNNMoney) -- The market for exchange traded funds has really heated up over the past five years, with more than 1,100 funds to choose from. But some of the best performing ETFs may not be the best option for the average investor.

Leveraged and inverse ETFs are two types that have gained popularity among traders because many of them offer big returns but you practically have to be a day trader to win at this game.

"These funds are designed for active traders, for people who want to make aggressive bets on a part of the market," said Michael Iachini, director of investment manager research with Charles Schwab.

Unlike regular ETFs, which track a stock, an index, commodity or basket of commodities, these specialized ETFs take it to another level by adding on the more volatile put and call options, and derivatives so you wind up with a supersized ETF, if you will.

You can double or triple your returns because of those added benefits but the volatile nature of puts, calls and derivatives, make it a riskier play for average investors.

"These products are behaving exactly as they are designed, but retail investors need to know there are products they simply shouldn't touch," said Mike McGrath, director of ETFs for TD Ameritrade.

It's not uncommon for leveraged and inverse ETFs to quickly jump to the top of Morningstar's top-performing ETF list following a market event like the earthquake in Japan or a spike in oil prices.

But just because a leveraged technology ETF is up 30% in a week doesn't mean it will continue to perform that way the next week. For example, the ProShares UltraShort MSCI Japan (EWV) jumped nearly 25% following the March 11 earthquake in Japan, only to fall more than 15% the following week.

Today, there are literally hundreds of leveraged and inverse ETFs, with billions of dollars under management. ProShares, the first company to offer such products, has 119 of these funds.

Most of the major inverse or leveraged ETFs are marketed with the prefix "Ultra," "2X," "3X" "Double Long" or "Inverse" followed by the sector that the ETF specializes in. For example, the ProShares Ultra Financials (UYG) provides double leveraged exposure to the Dow Jones U.S. Financials Index, a Dow Jones index that tracks banks and other financial companies.

Fund management company Direxion offers triple-leverage sector ETFs, allowing an investor to bets on the direction of everything from gold to the Chinese stock market.

"Several of these products are simply dangerous for the retail investor," said Christian Magoon, an ETF-focused investment strategist.

Magoon is not alone. The Securities and Exchange Commission, FINRA (the self-government securities industry regulator), and many retail brokerage houses have raised red flags about these ETFs.

Experts say investors would be better served by investing in ETFs designed with a longer timeframe in mind, such as State Street's S&P 500 SPDR (SPY), which tracks the broad S&P 500 (INX) index, or sector-specific ETFs like S&P Oil & Gas Exploration & Production SPDR (XOP) or the Gold Shares SPDR (GLD).  To top of page

Frontline troops push for solar energy
The U.S. Marines are testing renewable energy technologies like solar to reduce costs and casualties associated with fossil fuels. Play
25 Best Places to find rich singles
Looking for Mr. or Ms. Moneybags? Hunt down the perfect mate in these wealthy cities, which are brimming with unattached professionals. More
Fun festivals: Twins to mustard to pirates!
You'll see double in Twinsburg, Ohio, and Ketchup lovers should beware in Middleton, WI. Here's some of the best and strangest town festivals. Play
Overnight Avg Rate Latest Change Last Week
30 yr fixed4.28%4.28%
15 yr fixed3.26%3.17%
5/1 ARM3.43%3.51%
30 yr refi4.21%4.17%
15 yr refi3.18%3.10%
Rate data provided
by Bankrate.com
View rates in your area
 
Find personalized rates:
Index Last Change % Change
Dow 17,001.22 -38.27 -0.22%
Nasdaq 4,538.55 6.45 0.14%
S&P 500 1,988.40 -3.97 -0.20%
Treasuries 2.40 -0.00 -0.17%
Data as of 8:03pm ET
Company Price Change % Change
Bank of America Corp... 16.13 -0.03 -0.19%
Apple Inc 101.32 0.74 0.74%
Salesforce.com Inc 59.80 4.09 7.34%
General Electric Co 26.15 -0.28 -1.06%
Cisco Systems Inc 24.65 -0.24 -0.96%
Data as of 4:02pm ET

Sections

The Coolest Cooler launched a Kickstarter campaign in July and has raised over $9 million so far, the second highest grossing campaign ever. More

The Coolest Cooler launched a Kickstarter campaign in July and has raised over $9 million so far, the second highest grossing campaign ever. More

This month, Delaware became the first state to pass a law giving heirs the right to access the online accounts and assets of someone who has passed away. More

Market indexes are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer Morningstar: © 2014 Morningstar, Inc. All Rights Reserved. Disclaimer The Dow Jones IndexesSM are proprietary to and distributed by Dow Jones & Company, Inc. and have been licensed for use. All content of the Dow Jones IndexesSM © 2014 is proprietary to Dow Jones & Company, Inc. Chicago Mercantile Association. The market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. FactSet Research Systems Inc. 2014. All rights reserved. Most stock quote data provided by BATS.