Speaker 1: Welcome to Trillance. I'm Joel Webber and I'm Eric Beltunas Eric.
Speaker 1: The past week has been an interesting one, to say
Speaker 1: the least in the markets. Right there was a Job's
Speaker 1: report that came out on Friday, a new FED share
Speaker 1: started on Monday, and then we saw some red, a
Speaker 1: lot of red, and it kind of rebounded the following day.
Speaker 1: But there's a lot of turbulence in the market right now,
Speaker 1: and a lot of investors, especially if you're new to investing,
Speaker 1: are seeing red in a way that they've never seen
Speaker 1: before because we've we've been in this epic bowl market
Speaker 1: for for almost a decade now. Yeah, it started to
Speaker 1: seem like utopia, like you're just especially with the FED
Speaker 1: and how they kind of had the markets back for
Speaker 1: a while. Then Trump won. That was another catalyst. Just
Speaker 1: been this nice perform Yeah, yeah, there's always some reason
Speaker 1: to buy right and now we've gotten some shakiness. And
Speaker 1: for me, it was very unfortunate because I am in
Speaker 1: Philly on Sunday night the Eagles win. I didn't get
Speaker 1: to bed until three in the morning on Sunday, and
Speaker 1: I took Monday off to sort of just relish the
Speaker 1: Eagles victory and I get start getting emails about some
Speaker 1: of these volatility tf So around three o'clock I kind
Speaker 1: of was woken from that Eagles dream and into reality
Speaker 1: and spent the last basically forty eight hours dealing with
Speaker 1: a lot of issues around to sell off and volatility
Speaker 1: products and what have you, which is is what we're
Speaker 1: going to dedicate this whole episode too this week, because
Speaker 1: we've talked a lot about e t f s, but
Speaker 1: they have some cousins that are called e t n s,
Speaker 1: and these all fit under something called an e t P,
Speaker 1: which are exchange traded products. E t N stands for
Speaker 1: exchange traded notes, and ETFs are exchange traded funds. Those
Speaker 1: three things are very different things. Yeah. Look, I mean
Speaker 1: they went out and basically wrapped up everything you could
Speaker 1: possibly think of into an e t F or an
Speaker 1: e t N. We call that e TPS. Imagine a zoo, right,
Speaker 1: There's different categories, and there's there's some stuff in there
Speaker 1: that's highly exotic, you know, the reptile area kingdom. Yeah, yeah,
Speaker 1: that area you can bite, you know. And I think
Speaker 1: there's some that happens every couple of years. You see
Speaker 1: investors who might have gotten a little too um naive.
Speaker 1: They went from the petting zoo to the reptile section, right, yes, exactly,
Speaker 1: straight from petting the sheep into playing with the python.
Speaker 1: We also have joining us your colleague James Seffert, who's
Speaker 1: an E t F Associate analyst with Bloomberg Intelligence, and
Speaker 1: we're gonna talk about something I'm really excited to talk
Speaker 1: about because brand new. You guys just kicked it off.
Speaker 1: It's like available now on the Bloomberg terminal. It's hot,
Speaker 1: it's hot. The e t F stop flight system. We
Speaker 1: can say we dropped it, right, we dropped Okay, we
Speaker 1: dropped this week on Trilliance, the e t F stop
Speaker 1: flight systems to save you from yourself. Okay, Eric et
Speaker 1: F stop light system, what is the genesis of that? Right? So,
Speaker 1: E t F s are a wild it's just a
Speaker 1: huge spectrum of products. And over the years I've been
Speaker 1: finding that if you talk to like a financial advisor
Speaker 1: network we call them wire houses where they have a
Speaker 1: large network of advisors, I found they'll put E t
Speaker 1: F into two categories. Either they're on the approved list
Speaker 1: where they're not right, and the media there tends to
Speaker 1: be they're safe or they're dangerous. But to me, there's
Speaker 1: much more nuanced than that. And the other problem is
Speaker 1: what's dangerous to one person might be god send to another.
Speaker 1: You know, there could be a product that's triple leverage
Speaker 1: junior gold miners. Now I don't know what you just said,
Speaker 1: but triple leverage gold miners, okay, Just know you could
Speaker 1: lose or make a lot very quickly. These are products
Speaker 1: that I call trading tools, and for certain investors they're great.
Speaker 1: These are like power tools, and for other investors they
Speaker 1: would be horrible. Right, But they're all kind of put
Speaker 1: into this big area we call e t F and
Speaker 1: some aren't even technically e t S. Will get to
Speaker 1: that in a minute, But arguably I thought movie ratings
Speaker 1: would be useful for e t F s. You did
Speaker 1: in your book, right, and I wrote this in my book.
Speaker 1: You know there's like five ratings GPG, PG thirteen, r A,
Speaker 1: n C seventeen. Right, Because look, at the end of
Speaker 1: the day, just because children exist doesn't mean people shouldn't
Speaker 1: be allowed to see a Quentin Tarantino movie. Right. We
Speaker 1: want him to make his movies, but we don't want
Speaker 1: like my I don't want my son to see The
Speaker 1: Hateful Eight. Not until he's at least ten years old.
Speaker 1: He's like nine right now. Right, Well, my dad let
Speaker 1: me watch The Extorcists when I was eleven. I'm still
Speaker 1: recovering that anyway. Look, movie ratings are great because the
Speaker 1: other problem with rating systems out there, for e. T.
Speaker 1: F is they might tell you by cell hold right
Speaker 1: whether they think the underlyings can go up or down.
Speaker 1: We don't do that. It be I. There's also rating
Speaker 1: systems like from that are targeting advisors and they'll throw
Speaker 1: all the crazy stuff out the window. They won't even
Speaker 1: rate them. They're like they don't exist. They're awful. But
Speaker 1: at Bloomberg, you know our terminal users are sophisticated, so
Speaker 1: we wanted to assist them. That could be used in
Speaker 1: regardless of who the investor is or what their goal,
Speaker 1: whether it's a small hedge fund, my grandma or an
Speaker 1: advisor in Oklahoma. Telling you what the rating is gives
Speaker 1: you advanced information to know the level of nasty surprise
Speaker 1: that could be within the product. This is a helpful
Speaker 1: way to avoid having a bad experience. So again, it's
Speaker 1: like movie ratings. That way, you know what's appropriate to
Speaker 1: take your kid to so James. The thing here is
Speaker 1: that you couldn't use movie ratings, right, Yeah, that's that's copyrighted.
Speaker 1: So we had to come up with something else. So
Speaker 1: we came up with a stoplight, green, yellow, red, pretty simple.
Speaker 1: McDonald's simple and Eric's world. It's not as exciting as saying, hey,
Speaker 1: this et F rated are that's pretty cool, but it
Speaker 1: tells you advanced information about what you should be doing
Speaker 1: or what to be thinking about. Okay, so we've also
Speaker 1: said something called exchange traded notes, and we need to
Speaker 1: talk about that because an exchange traded note, or an
Speaker 1: e t N is not the same thing as an
Speaker 1: exchange traded fund. So what is an e t N.
Speaker 1: It's an unsecured debt obligation. And really they probably shouldn't
Speaker 1: be in the whole e t F universe, but they
Speaker 1: kind of got grandfathered in about twelve fifteen years ago.
Speaker 1: They were originally launched to go out and track areas
Speaker 1: that e t s couldn't like, for example, India fifteen
Speaker 1: years ago, you couldn't get in there as a foreign investor,
Speaker 1: so an e t N could say, okay, we'll track
Speaker 1: an India index. But it's a note. Just know that
Speaker 1: that's what we're doing. You don't know what we're investing in,
Speaker 1: so they'll just it's sort of like saying, just trust this.
Speaker 1: And so that's why they don't report holdings, because you
Speaker 1: don't exactly know what they're doing. Largely they do invest
Speaker 1: in the underlying to hedge themselves, but that's ultimately what
Speaker 1: it was designed for at the beginning. Now, over time,
Speaker 1: all those things have opened up, and e t f
Speaker 1: s track them, and most people would rather have the
Speaker 1: e t F which physically holds what it says it holds.
Speaker 1: But e t n s have hung around for one
Speaker 1: big reason. They're essentially a tax loophole. So in the
Speaker 1: cases of like futures, E t F to tract futures
Speaker 1: get taxed uh in an unfortunate way. You get a
Speaker 1: K one because it's like your tax like you hold futures,
Speaker 1: whereas an e t N they don't hold it, so
Speaker 1: their tax like shares of Microsoft. So people who don't
Speaker 1: want to deal with the sort of fussy taxation will
Speaker 1: use the e t N and stomach the fact that
Speaker 1: it's a note and comes with credit risks. So if
Speaker 1: the issue of an e t n like Barclays has some.
Speaker 1: If they go back up, you could lose all your money,
Speaker 1: which happened with Lehman. Actually, yeah, Lehman had a couple
Speaker 1: of bear Stearns had one, and that you know, the
Speaker 1: bedrock of the e t F is the fact that
Speaker 1: it's built on the forty Act, yes, right, which is
Speaker 1: what's made it, you know, be this stable thing for
Speaker 1: as long as it's been around. E tns do not
Speaker 1: have that, right, they're not built on that forty Acts.
Speaker 1: So they're basically unregulated in the same way, right, they're
Speaker 1: they're regulated to a degree, but yeah, they're under the Acts.
Speaker 1: So they're still regulated, just not to the scrutiny that
Speaker 1: ETFs are. And they're in some areas that are really interesting.
Speaker 1: And one of those areas is volatility. And there's been
Speaker 1: a dearth of volatility of late in the markets, right,
Speaker 1: and so a lot of people piled into a certain
Speaker 1: kind of trade. And I'll let you pick it up here.
Speaker 1: What was that trade? So this was a trade that
Speaker 1: you short vix futures and vixes volatility. Yeah, fix is
Speaker 1: basically and vix vix. The vixen nets took a step
Speaker 1: back the VIX index is tracking the volatile on options
Speaker 1: on the SPI. In other words, if there's volatili on options,
Speaker 1: it means people are looking to buy insurance on their portfolio.
Speaker 1: That's what you do with puts. So if that starts
Speaker 1: going up, it means people are nervous. Right now. They
Speaker 1: have futures tracking the VIX, which you can invest in.
Speaker 1: The futures market is what the e T s hold.
Speaker 1: Most of them go long, which is they hold the
Speaker 1: futures and like just like the oil et F holds
Speaker 1: oil futures, but a new category came out that shorts them.
Speaker 1: Now what this does is it sort of puts you
Speaker 1: in the position as being like a hurricane insurance company.
Speaker 1: You're selling risks. So as long as there's no problems,
Speaker 1: you collect this nice premium. I mean, it's really nice.
Speaker 1: That thing went up the inverse vix E T N
Speaker 1: when about in the last two years. That's more it's
Speaker 1: more like stepping up. I mean, that's some serious They
Speaker 1: could equated to picking up nickels in front of a
Speaker 1: steam roller, but those are like five dollar bills. And yes,
Speaker 1: a hurricane from hell came and basically it lost nine
Speaker 1: in a day so because of this low ball environment,
Speaker 1: Normally it'd have more hiccups along the way and you
Speaker 1: wouldn't see that level of event. But there's been such
Speaker 1: this placidness over the last couple of years that when
Speaker 1: it hit Man, it made up for lost time. And
Speaker 1: actually Bloomberg News has done something really interesting reporting around
Speaker 1: this of volatility as an you know, volatility inc. Is
Speaker 1: the idea, right, there's so much money wrapped up in
Speaker 1: volatility now that it's almost become its own asset class. Yeah,
Speaker 1: this is part of the reason I think this stoplight
Speaker 1: system is timely, because some of these products are useful
Speaker 1: for people who know what they're doing. Say you're a
Speaker 1: small hedge fund, you don't have access to some big
Speaker 1: prime broker, all right, you know how to trade these things,
Speaker 1: go for it. The problem is they're not labeled, and
Speaker 1: so if you're a retail investor, you may not understand
Speaker 1: the inner workings of Vick's futures. So big debate now
Speaker 1: is whether it just banned these things or as we're proposing,
Speaker 1: label them because there are people who actually might still
Speaker 1: be able to use them. They're just not your grandmother. Yeah,
Speaker 1: And and the e T F S did what they
Speaker 1: were supposed to do. Vick's futures rose that day, so
Speaker 1: you got the inverse of that. It's not like they
Speaker 1: failed as a product, they just what they held just
Speaker 1: kind of went to hell. Okay, so we had this
Speaker 1: big sell off and you guys have this new stop
Speaker 1: light system. Let's talk about one of the E t
Speaker 1: N s the inverse vix x I V. I'm looking
Speaker 1: here at your stop light system. It's got a red
Speaker 1: light and seven points. James. That sounds bad. Yeah, yeah,
Speaker 1: that is. That is bad. So the highest we have
Speaker 1: on our system is is a ten. So seven is
Speaker 1: pretty high. Up is anything at ten? Yeah, we have one.
Speaker 1: We have one thing that's attend on our system that
Speaker 1: it's actually another e t N that's three times leveraged
Speaker 1: on oil crude oil and it's actually listed OTC. It
Speaker 1: has a lot of tons of different issues surrounding it.
Speaker 1: So yeah, this would be like almost beyond NC seventeen. Yeah,
Speaker 1: I mean this would be almost like banned by the government. Yeah,
Speaker 1: it's like times square or yeah, when it was fun.
Speaker 1: Let's walk through the rating system so we get a
Speaker 1: better sense of why something could be a seven out
Speaker 1: of ten or a ten out of ten or maybe
Speaker 1: like a zero out of ten? Does that exist? Zero
Speaker 1: out of tens exist? There's a lot of the market
Speaker 1: zero at tends most of vanguards funds or zero out
Speaker 1: of ten. That's like the G category. That's like it's
Speaker 1: safe for Grandma to just go to town with not
Speaker 1: That's not to say the E t F will always
Speaker 1: go up again. It's just to say there's nothing odd
Speaker 1: that's gonna make you go, oh, I didn't know that
Speaker 1: would happen. The system technically could go higher than ten.
Speaker 1: We just don't have any that we rate that hit
Speaker 1: that number. It's like mind blowing. I mean, look the
Speaker 1: smp F, t fs uh, the aggregate bond ETFs, all
Speaker 1: the stuff that generally is used as building blocks for
Speaker 1: portfolio is all green. Zero All systems go have fun.
Speaker 1: The green category likely makes up about t f sts.
Speaker 1: And at what point do you get a yellow light
Speaker 1: or a red light? When you get one point in
Speaker 1: our system or one in fraction, whatever you want to
Speaker 1: call it, and then to get to a red light
Speaker 1: you need three points or or infraction from there, YEA.
Speaker 1: So yellow light is sort of like PGPG thirteen area
Speaker 1: in terms of violations, and you know, look, we don't
Speaker 1: just look at like whether it holds leverage or futures.
Speaker 1: There's some legit things on here that I think are
Speaker 1: also eye opening about due diligence on et F. So
Speaker 1: let's talk about them. Alternative tax treatment. So that's the
Speaker 1: first one in the list, So that basically looks at
Speaker 1: anything that has an alternative tax. You invest in futures,
Speaker 1: you have to deal with what's called a K one,
Speaker 1: which can be complicated more paperwork that a lot of
Speaker 1: people don't want to deal with. Um. The other thing
Speaker 1: is something like gold, which is taxed as a collectible,
Speaker 1: which many people don't realize. To invest in a gold ETF,
Speaker 1: you're not actually going to be taxed in the same
Speaker 1: way that you would investing in a normal equity E.
Speaker 1: T F, G L D is a great example because
Speaker 1: other other than that tax issue, it's completely fine. It
Speaker 1: holds the gold, it's does a great job tracking, no problem.
Speaker 1: But if you do sell it, you your taxes. If
Speaker 1: you held like one of those gold plates from you
Speaker 1: know the commercial during Fox News or whatever, you know
Speaker 1: what I mean, where you're actually holding a collectible that
Speaker 1: is a different taxation system and I've heard some investors
Speaker 1: are a little mildly surprised by that green light yellow
Speaker 1: yellow light alternative waiting scheme. So this one is just
Speaker 1: saying that the ETF is waiting its underlying assets by
Speaker 1: something other than market cap. So market cap meaning you're
Speaker 1: it's just a broad investible index like the SMP five hundred,
Speaker 1: But you can get equal weight SMP five hundred, which
Speaker 1: will give you more volatility because it's going to give
Speaker 1: higher weighting to those smaller cap funds are smaller cap act.
Speaker 1: One thing that would fit in this category then would
Speaker 1: be smart beta e t f s, which had become
Speaker 1: really popular lately, and we haven't really talked about them yet,
Speaker 1: and we will talk about them more. But what is that.
Speaker 1: It's just a fantastic buzzword. But really all it is
Speaker 1: is applying to anything that isn't market cap weighted. So
Speaker 1: if you have the SMP five hundred apples at the top, right,
Speaker 1: and then exon and down you go, the biggest companies
Speaker 1: get the most waiting. Smart Batas says, let's do something different.
Speaker 1: Let's equal weight those stocks, give the smaller ones more voice.
Speaker 1: Let's wait them by their fundamentals. Let's look at stocks
Speaker 1: with lower p s. Let's wait them by the momentum.
Speaker 1: You know, there's all different ways you can wait them.
Speaker 1: So it's a twist on the market cap weighted index,
Speaker 1: but in reality it's actually taking active strategies that have
Speaker 1: worked for many years and converting them into a rules
Speaker 1: based index. So smart BATA sort of fills that void
Speaker 1: between discretionary active where you just do what you want
Speaker 1: and pure passive market cap weighted. We want people to
Speaker 1: know there's something in there that you should probably just
Speaker 1: look at, and that is all smart bait against an
Speaker 1: immediate yellow. Yeah. The other thing to note is that
Speaker 1: none of this nuts is necessarily saying this is a
Speaker 1: bad e t F or this is a bad situation.
Speaker 1: This is just something that to make people aware of
Speaker 1: what's going on. Here's a great example XOP, which is
Speaker 1: the Oil Producers et F. It's equal weighted and it
Speaker 1: has two thirds mid and small caps. It's triple the
Speaker 1: volatility right of x l E, which is the Spider
Speaker 1: Energy et F, which you think those are kind of similar,
Speaker 1: but XLS market cap weighted mostly large caps. This one
Speaker 1: is equal weighted and it's a smaller area of the
Speaker 1: oil energy of the energy area. And that is a
Speaker 1: lot of extra vol right there. You can go up
Speaker 1: and down pretty fast an x OP. That's why it
Speaker 1: gets a yellow. Next factor that you guys looked at
Speaker 1: potential NAV tracking issues, So how do how do you
Speaker 1: guys factor this in? So? So NAV is the just
Speaker 1: basically the underlying value of what the fund is actually holding.
Speaker 1: So an E t F has a NAV and the price.
Speaker 1: Um so when you buy your buying at the price,
Speaker 1: you're not buying at the NAV. So what you expect
Speaker 1: in a passively managed e t F. For really, any
Speaker 1: E t F you expect to be buying at a
Speaker 1: value that where the price is equal to the NAV.
Speaker 1: So any e t F where there's some discrepancy between
Speaker 1: the price and the NAV over extended periods of time,
Speaker 1: that's unexpected losses. So even if you're talking only a
Speaker 1: couple of basis points or percentages of percentage points, it
Speaker 1: can really affect your return. And what does NAV stand for?
Speaker 1: Net asset value? It's basically what you know the Kelly
Speaker 1: blue Book. Yeah, it's what the value of those stocks
Speaker 1: are worth. So everybody wants to buy something close to
Speaker 1: that Kelly blue Book value, right or until you're are
Speaker 1: for it. Yeah, there you go. That is sort of
Speaker 1: what the NAV is is a metaphor, but ultimately you
Speaker 1: want to be close to it. And that's what people
Speaker 1: love about ETS is it the price that you that
Speaker 1: it trades at is close to the NAV because if
Speaker 1: it gets out of whack, people can come in and
Speaker 1: arbitrage the difference. That's what you don't have in closed
Speaker 1: end funds, and people don't like those for that reason.
Speaker 1: The other part of this is think about what an
Speaker 1: e t F sole mission in life is is the
Speaker 1: track and index. So we're also gonna dig it. If
Speaker 1: it doesn't do a good job at that, we want
Speaker 1: to let you know because arguably the distance between the
Speaker 1: index return and the ETS return is really the total cost.
Speaker 1: The expense ratio comes out of that, and then sometimes
Speaker 1: they do a little better of the expense ratio, sometimes
Speaker 1: they do worse. We're trying to capture that to make
Speaker 1: sure you know there's actually some extra tracking costs in
Speaker 1: here that you're going to have to pay for it.
Speaker 1: Next fund is actively managed because there are actively managed
Speaker 1: t yees, So especially on the fixed income side, there's
Speaker 1: a there's a lot, there's a significant assets on that
Speaker 1: are actively managed, meaning there's there's a fund manager actually
Speaker 1: going in there and picking specific securities. It's growing in
Speaker 1: popularity on the equity side and basically all over ets,
Speaker 1: but it's still a very small aspect of the e
Speaker 1: t F market. And these are big name bond guys, right, Yeah,
Speaker 1: You've got people like Jeffrey Gunlock, and then you have
Speaker 1: people double Line exactly and Pimco. There's a lot of active,
Speaker 1: big bond asset managers that have e t s. It's
Speaker 1: not bad to be active in an e t F. However,
Speaker 1: sometimes people assume it's all passive. Again, it's just to
Speaker 1: alert you that this is a this is an e
Speaker 1: t F where the manager is doing whatever they want
Speaker 1: and you just should know that. Right. Hidden fees, So
Speaker 1: this one gets a little complicated. There's a lot of
Speaker 1: different ways that e t f s can have hidden fees, right. So, Um,
Speaker 1: one of the big things that people have been talking
Speaker 1: about are these interest rate hedge gtfs. So what they're
Speaker 1: doing is they're trying to hedge out the risk from
Speaker 1: rising interest rates. Um, But there's costs in shorting that
Speaker 1: You're you're paying the cost in whatever the interest rate
Speaker 1: is to short the interest rate. So look, there's a
Speaker 1: lot of ets that I call package trades. They go
Speaker 1: longness and short that right and there are which is
Speaker 1: kind of phenomenal when you think about that yellow. But
Speaker 1: arguably the reason those get yellow is because there have
Speaker 1: hidden costs the shorting. When you short, you gotta pay,
Speaker 1: You gotta pay for that. So what's the degree of that.
Speaker 1: We want to let you know that that's what it is.
Speaker 1: There's also hidden fees, and like um funds that own
Speaker 1: other funds, there's acquired fund fees that that aren't reported
Speaker 1: all the times, like the really superfine print at the body. Yes,
Speaker 1: and there's mlpts which have these incredibly awful taxation issues.
Speaker 1: We throw all that in into hidden fees that aren't
Speaker 1: necessarily reported in the expense ratio. By the way, how
Speaker 1: many e t f s have you guys put through
Speaker 1: this gauntlet? So basically when we start, we we look
Speaker 1: for e t f that have at least one year
Speaker 1: of history, so we can say that they've been trading
Speaker 1: or alive for one year and they have at least
Speaker 1: fifty million dollars in assets right now, we're just overtfs
Speaker 1: are classified. Those are that's going to be the assets
Speaker 1: and volume. However, we might expand it. If we get
Speaker 1: some traction on this, we may just rate them when
Speaker 1: they come out like a movie. Um, and you know
Speaker 1: that way people know what they're getting into right away.
Speaker 1: We wouldn't be able to some of these won't be
Speaker 1: will be moot because you need uh you know, history.
Speaker 1: But some of these you could write right away. Credit risk.
Speaker 1: So this is directly related to what we talked about
Speaker 1: before with exchange traded notes. Exchange traded notes have a
Speaker 1: credit risk, their unsecured dead obligations issued by big banks,
Speaker 1: credit suee ubs, uh, you name it. There's another one,
Speaker 1: less liquid holdings. Yeah. So there was debate on what
Speaker 1: we wanted to call this because we didn't really want
Speaker 1: to call it a liquid holdings because if the holdings
Speaker 1: were truly a liquid then there really wouldn't be an
Speaker 1: e t F. But um, there are plenty of assets
Speaker 1: that have been wrapped in the e t F rapper
Speaker 1: that are considered less liquid. So you've got high yield
Speaker 1: dead instruments such as bank loans or high yield corporate
Speaker 1: bonds which don't really trade that off in E t
Speaker 1: F trades multiples of times more per day than the
Speaker 1: underlying assets. You also have things like frontier markets like
Speaker 1: Vietnam Um where the equity doesn't trade nearly as much
Speaker 1: as something like a U S stock. The high yield
Speaker 1: bond area is really what we wanted to capture this
Speaker 1: because I've always said H y G and J and K,
Speaker 1: the two junk bond E t F r PG, they
Speaker 1: hold what they hold. I mean, they're along the bonds.
Speaker 1: There's nothing, there's no derivatives, nothing weird. But let's just
Speaker 1: face it, they're holding something that doesn't trade a lot
Speaker 1: only about I don't know, less than half the bonds
Speaker 1: trade every day inside H y G. It's traded over
Speaker 1: the counter. And there's a lot of people concerned about this,
Speaker 1: so we want to make sure that we're sensitive to
Speaker 1: that concern. But to me, they're not, like, don't ever
Speaker 1: use them. But this is perfect yellow light PG. Thirteen area.
Speaker 1: Good advice is always to be if if you're looking
Speaker 1: at an E t F and you wouldn't invest in
Speaker 1: the underlying asset or what it's tracking, you probably shouldn't
Speaker 1: be investing in the t F because it's just an
Speaker 1: instrument to get access to those markets that probably should
Speaker 1: be at the top of everybody's you know et F
Speaker 1: due diligence guide. That is so true. You're outsourcing the
Speaker 1: work of going to do it yourself, but doesn't change
Speaker 1: the underlying especially when you add something like leverage. Right,
Speaker 1: what's leverage? So leverage in the e t F space
Speaker 1: is primarily done through swaps and derivatives and really complicated instruments.
Speaker 1: But what they'll do is they'll do the same thing
Speaker 1: as most ETFs, will try to track an index, but
Speaker 1: they're daily leverage, right, So it's gonna look at the
Speaker 1: e t F or the index. So, for example, the
Speaker 1: SMP five hundred, if the SMP five hundred goes up
Speaker 1: five and this is a three three x levered e
Speaker 1: t F that day, that e t F should go up.
Speaker 1: And they're also inverse leverage, so if it's three times inverse,
Speaker 1: it will go down. So not only do you have
Speaker 1: this wildly volatile area, but these are swap agreements, so
Speaker 1: there's some counterparty risk there. This is a company going
Speaker 1: to different banks sort of like the guys in the
Speaker 1: Big short to get the subprime mortgage, and they're saying,
Speaker 1: let's just do a swap agreement on the side. The
Speaker 1: good news is they use several so if one bank
Speaker 1: were to blow up, there's other ones there and they
Speaker 1: reset them all the time, so they're always mixing it up.
Speaker 1: That said, the real issue though, is that you can
Speaker 1: go up and down a lot in today, Like you know,
Speaker 1: we look at something like a triple leveraged gold miners
Speaker 1: back to that one that can go up fifteen percent
Speaker 1: in a day, we're down, And there's been evidence that
Speaker 1: like on tam Mary trade. You know, there's some individual
Speaker 1: investors who use these things. This should be a total
Speaker 1: red light simply because of the fact of the leverage.
Speaker 1: But then on top of that, when you reset the
Speaker 1: leverage every day, if there's volatility, you're resetting all over
Speaker 1: the place, and so over the long term, that volatility
Speaker 1: drag will wipe you out. So even if the index
Speaker 1: had gone up in that year that volatility, you could
Speaker 1: be down if you bought and hold it. So leverage
Speaker 1: GTF should be treated like hot potatoes. They traded power tools, Yeah,
Speaker 1: you could lose a hand um dangerously. Low volume was
Speaker 1: one that we can talk about if it's got low
Speaker 1: low volume things not trading. So I I feel bad
Speaker 1: because there's this volume addiction. If it trades a lot,
Speaker 1: people just trade it more and they think that's what
Speaker 1: they should do. But you have this opposite problem where
Speaker 1: like the lesser liquid ones have such a hard problem
Speaker 1: getting like an audience. It's like a party. Nobody's at
Speaker 1: um those you could I'm just picturing your whole high
Speaker 1: school years right now. Hi guys, Okay, sorry that was
Speaker 1: too hardy of a laugh. I'd like you more than that.
Speaker 1: Um listen. Dangerously low volume. Isn't that you can't trade them?
Speaker 1: Is that you probably should use a limit order. You should.
Speaker 1: You don't just put a market order in because when
Speaker 1: they're low volume, a lot of times the spread on
Speaker 1: the screen will be a little wider, meaning what somebody
Speaker 1: will pay versus what they'll sell. That's the spread that's
Speaker 1: sort of like your toll going in and out of it.
Speaker 1: So you can put a limit order in the middle
Speaker 1: of that though, and actually get a price. They put
Speaker 1: the wide spreads on those lesser liquid ones. So that's
Speaker 1: really the warning there. But I would you know, open
Speaker 1: up the door to people, because if you just go
Speaker 1: to the highly liquid et s, you're essentially trading stuff
Speaker 1: that came out in the nineties, might not be the cheapest,
Speaker 1: might not be the best exposure, So you do want
Speaker 1: to maybe look deeper in the toolbox. But if you
Speaker 1: see yellow dangerously low volume, really that should just tell
Speaker 1: you that, Okay, let me just be careful trading it.
Speaker 1: Let me buy using a limit order. And by the way,
Speaker 1: if something has low volume and you're worried about it closing,
Speaker 1: it can close. But with E t F s you
Speaker 1: don't lose all your money. Not E t N you can.
Speaker 1: That's the credit risk. But any TF holds the security,
Speaker 1: so if it closes, it basically just sends a letter saying, look,
Speaker 1: we this product didn't really work right, Like the waste
Speaker 1: management et F for the fishing, how about the fishing
Speaker 1: ETF holds a bunch of Japanese and Norwegian stocks didn't
Speaker 1: make it, So on the closure date they sell those
Speaker 1: stocks and give you a check for your n a V.
Speaker 1: We should add that most of the ones that got
Speaker 1: dinged with this, we're actually E t N s that
Speaker 1: basically don't trade like less than once a month, So
Speaker 1: we're talking like seriously low volume on the exchanges. Were like, yeah,
Speaker 1: they barely trade at all. How many of those actually
Speaker 1: just end up folding a lot and more should I
Speaker 1: think they should. If if you don't have like a
Speaker 1: trade in your product, like every day at least one trade,
Speaker 1: you should probably just close. I mean that is really
Speaker 1: like ignored. I mean there's even products that are less
Speaker 1: than say ten million dollars trading a day, which many
Speaker 1: of users won't touch. They'll look for at least fifty
Speaker 1: million a day, but that only gets you a hundred
Speaker 1: and sixty ETFs. So then you got to go deeper
Speaker 1: and deeper. But there's probably I don't know four or
Speaker 1: tf that I think we're probably better off just closing. Okay,
Speaker 1: so we've got two more, uh, discount or premium issues
Speaker 1: being one of them. Yes, So we talked about this
Speaker 1: a little bit before with the potential nav tracking errors UM,
Speaker 1: but the discount premium issues take really take into account
Speaker 1: the difference between the NAV and the price. So before
Speaker 1: when we talked about the tracking issues, we were talking
Speaker 1: about performance solely. So over the last year or two
Speaker 1: years or whatever it may be, the index outperformed or
Speaker 1: underperformed the actual e t F. So UM discount premium
Speaker 1: issues just looks at on a given day, say you
Speaker 1: need to sell in a given time period, for example Egypt.
Speaker 1: When Egypt closed down, the market was not trading properly,
Speaker 1: so you didn't know what the actual NAV was. There
Speaker 1: was huge disconnects between the price of the e t
Speaker 1: F and the underlying asset values. These are all things
Speaker 1: that you should be aware of that have happened in
Speaker 1: the past with these ETFs. The discount premium is a
Speaker 1: um It can confuse people. You think discount cheap, premium expensive.
Speaker 1: The word I use as arbitrage band and I know
Speaker 1: that sounds even worse. Basically, basically, how it is it
Speaker 1: before somebody steps in and goes, okay, the price of
Speaker 1: the e t F is drifted away from the NAV
Speaker 1: enough that I'm gonna go by the e t F
Speaker 1: and sell the underlying vice versa. That arbitrageer is only
Speaker 1: going to do it when it's worth it to them.
Speaker 1: So how why does that get before they act? Now,
Speaker 1: it's gonna the more exotic and less liquid the holdings,
Speaker 1: the wider it's gonna get. So the premium discount arguably
Speaker 1: is another cost of access in that market. You're not
Speaker 1: gonna see big premiums discounts on SPY or i VV.
Speaker 1: There's gonna be like a couple of basis points, but
Speaker 1: you will see them on other exotic products. Those will
Speaker 1: definitely go in line with the exotic nous of the holdings.
Speaker 1: So not necessarily bad, it's just something again you need
Speaker 1: to know. And in this case, we we look at
Speaker 1: for two things, right, So we're looking for any time
Speaker 1: there's massive spikes, so we're talking differences between the NAV
Speaker 1: and the price, so that's just to alert you that
Speaker 1: there have been spikes in the past. And then also
Speaker 1: we're looking for an average discount premium over a given
Speaker 1: time period that's relatively high. So over the time period,
Speaker 1: this is never really as close to a NAV as
Speaker 1: say the smp is. And part of that is just
Speaker 1: because of the underlying assets. Like Eric said, if you're
Speaker 1: investing in Japanese equities, uh, they're not trading at the
Speaker 1: same time that US market is trading, so there's a
Speaker 1: little bit less ability to do those arbitrage trading mechanisms. Okay,
Speaker 1: so this last one is like leverage in that it
Speaker 1: can get really thick really quickly. Potential futures, roll costs,
Speaker 1: what's that. Yeah, so this is probably the one that
Speaker 1: I think is the most important because a lot of
Speaker 1: the products that hold futures forget the volatility. I mean
Speaker 1: those sound dangerous. They are dangerous, but like there's an
Speaker 1: et F out there called the United States Oil Fund,
Speaker 1: it sounds pretty innocent. When oil was down a couple
Speaker 1: of years ago, I had friend texting me, how can
Speaker 1: I play the oil rebound? And they were buying USO
Speaker 1: that that that does not really do justice to what
Speaker 1: it does. So when you have to hold oil futures,
Speaker 1: you have to roll them. As the one month gets closer,
Speaker 1: nobody wants oil delivered to their house, So everybody bails
Speaker 1: at that contract and it decays as as as it
Speaker 1: gets closer to when it expires. So then you got
Speaker 1: to sell that one. The e t F has to
Speaker 1: go buy the next one out, which is more expensive.
Speaker 1: When you're selling low and buying high over and over
Speaker 1: and over, something's not gonna work. Yeah, you are corroding
Speaker 1: the returns. So USO will have a we call it
Speaker 1: roll costs of pcent a year. And if it's said
Speaker 1: the United States Oil plus crippling contango roll costs or whatever,
Speaker 1: that would be fine. Maybe wouldn't have to have this system,
Speaker 1: but it doesn't USO, which sounds contain the oil fund. Yeah,
Speaker 1: which you know, bigger meta picture here which we've talked
Speaker 1: about before is that's the ultimate risk with e t
Speaker 1: f s is something can be a wolf in sheep's clothing. Yeah,
Speaker 1: and that is the future's role cost automatic three. We
Speaker 1: don't want anyone to get concerned, you know, to worry
Speaker 1: about this. Plus the taxation. If you hold the ones
Speaker 1: that actually hold futures, you've got different taxation issues. And
Speaker 1: then there's one that leverage on top of that. And
Speaker 1: then some of those are e t n s, So
Speaker 1: those are the ones that actually start adding up and
Speaker 1: get into like eight nine infractions. Not to say that
Speaker 1: some of these e t f s aren't really good
Speaker 1: at what they're doing. For example, if my grandma's investing
Speaker 1: in the markets, she shouldn't be investing in a vix
Speaker 1: e t N. That's as a long term investment. But
Speaker 1: if you're a hedge fund or a trader and you're
Speaker 1: trying to head your volatility, rest of a vix et
Speaker 1: F such as v x X as a really good
Speaker 1: investment for what they're trying to do. And that's what
Speaker 1: the the system is trying to do. It's trying to
Speaker 1: say that this is an alert. You should be aware
Speaker 1: of this um. If you are aware of it and
Speaker 1: you're still okay with it, go ahead. So et F
Speaker 1: stoplight system. Where can I find it? Well, it's on
Speaker 1: the Bloomberg terminal. That's where James and I publish all
Speaker 1: our research. However, not only can you find it there,
Speaker 1: if you email me, I'll send you a copy of it.
Speaker 1: It's ebal tunists at Bloomberg dot net. And we wanted
Speaker 1: to get out there. It's it's on the terminal. We
Speaker 1: write to it. But it's okay that it goes out.
Speaker 1: It's a simple thing, right, Yeah, it's a universal thing.
Speaker 1: We think that there should be an independent body doing this,
Speaker 1: and maybe not the SEC or the issuers. So I
Speaker 1: think that's uh, there's a need for it. And if
Speaker 1: it's not this system, maybe it'll spark somebody else to
Speaker 1: do it, or people will just get int into thinking
Speaker 1: about e t F s in terms of having nuanced
Speaker 1: or five levels of safe and dangerous and not just
Speaker 1: these are good, these are bad, green, yellow, red. James, Eric,
Speaker 1: thanks thanks for listening to New trillions. Until next time,
Speaker 1: you can find us on the Bloomberg Terminal, Bloomberg dot com,
Speaker 1: Apple Podcast, and a bunch of other places. I probably
Speaker 1: haven't heard that yet. We'd love to hear from you.
Speaker 1: We're on Twitter, I'm at Joel Weber Show, Eric's at
Speaker 1: Eric ball Tunes, James is at j S E y
Speaker 1: f F. Trillions is produced by Magnus Hendrickson with a
Speaker 1: lift from Tofur four as this week, Francesco Levi is
Speaker 1: the head of Bloomberg Podcast, but