Leveraged Exposure To The Nasdaq 100 Via TQQQ: Is It Worth The Risk?

seekingalpha09-14

TQQQ offers triple the daily returns of the Nasdaq 100, suitable for short-term trading but risky for long-term holding due to volatility decay.Leveraged ETFs like TQQQ face high volatility and daily ...

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17:09 GMT+8&nbsp;&nbsp;&nbsp;<a href=https://seekingalpha.com/article/4721103-leveraged-exposure-to-the-nasdaq-100-via-tqqq-is-it-worth-the-risk><strong>seekingalpha</strong></a>\n\n\n</h4>\n\n</header>\n<article>\n<div>\n<p>TQQQ offers triple the daily returns of the Nasdaq 100, suitable for short-term trading but risky for long-term holding due to volatility decay.Leveraged ETFs like TQQQ face high volatility and daily ...</p>\n\n<a href=\"https://seekingalpha.com/article/4721103-leveraged-exposure-to-the-nasdaq-100-via-tqqq-is-it-worth-the-risk\">Source 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0.88% expense ratio is fair for its speculative nature but adds to the long-term underperformance risk.TQQQ is best for experienced traders and short-term speculators; long-term investors should consider non-leveraged alternatives like QQQM.  \"Give me a lever long enough [...] and I shall move the world.\" (Archimedes) PM Images Thesis: TQQQ's leverage can be a double-edged sword The ProShares UltraPro QQQ ETF (NASDAQ:TQQQ) offers investors the ability to gain triple the daily returns of the Nasdaq 100 Index. While this can lead to impressive short-term profits in case of a bull market, I believe it also introduces significant risks that need to be carefully managed. In my view, TQQQ is best utilized as a tactical investment for short-term trading strategies rather than a long-term holding. The inherent risks associated with leveraged ETFs, such as volatility decay and daily rebalancing effects, make it unsuitable for buy-and-hold investors. For those interested in leveraging the performance of the Nasdaq 100, it's crucial to understand how TQQQ works and the potential pitfalls that come with it. Long term investors should steer clear of TQQQ, in my view. TQQQ: ETF Profile and role in a portfolio   TQQQ comparison vs. other Qs (Author's elaboration of Seeking Alpha data) TQQQ seeks to deliver three times the daily performance of the Nasdaq 100 Index. This is achieved through the use of derivatives, such as swaps and futures contracts. The ETF charges an expense ratio of 0.88%, which is significantly higher than its non-leveraged counterparts. A common misconception is that the expense ratio of a leveraged fund serves the purpose of covering the cost of leverage (cost of debt). This is however not the case, as the cost of borrowing is actually taken from the fund's performance, and not from its expense ratio, which is exclusively what the issuer pockets. Despite this dynamic, I consider the 0.88% expense ratio to be fair, given the speculative nature of this fund and industry averages for leveraged ETFs. While TQQQ doesn't hold stocks directly, its performance is based on the Nasdaq 100 Index, which includes top technology and growth companies such as Apple Inc. (AAPL) and Microsoft Corporation (MSFT). TQQQ, Top 10 Holdings (Seeking Alpha) When comparing TQQQ to the Invesco QQQ Trust (QQQ) and the Invesco NASDAQ 100 ETF (QQQM), it's evident that TQQQ is designed for a different type of investor. While QQQ and QQQM offer straightforward exposure to the Nasdaq 100, TQQQ amplifies that exposure, increasing both potential returns and risks. I see TQQQ purely as a speculative tool, aimed at investors who are willing to bet on short-term gains in the Nasdaq 100. It is a tool that is fundamentally inappropriate to hold in the mid and long term in a portfolio, in my view. The reason has partially to do with the high volatility. But mostly, it has to do with the high expense ratio and volatility decay effect - something I will cover in the next paragraphs. These two effects will cause the TQQQ ETF to underperform the underlying Nasdaq 100 in the long run. Understanding how TQQQ works and an illustrative example TQQQ's investment strategy focuses on delivering triple the daily return of the Nasdaq 100 Index. It's crucial to understand that this leverage is reset daily, meaning the ETF targets 3x the index's performance on a day-to-day basis, not over longer periods. This daily reset is a standard feature of leveraged ETFs, helping to manage risk and prevent extreme losses over time. In theory, if the Nasdaq 100 were to drop by 33.3% in a single day, TQQQ could lose all its capital. However, such a scenario is not only highly unlikely and historically unprecedented, but also virtually impossible due to market mechanisms that halt trading during periods of extreme daily volatility. The daily rebalancing mechanism is crucial for maintaining the 3x leverage but can lead to compounding effects over time, especially in volatile markets. This phenomenon, known as \"volatility decay\", can cause the ETF's performance to deviate from the expected multiple over longer periods. In bullish market conditions, TQQQ can generate substantial short-term gains. For instance, if the Nasdaq 100 increases by 2% in a day, TQQQ aims to deliver a 6% return (excluding fees and expenses). Over extended periods, the effects of volatility and daily rebalancing can cause TQQQ's performance to diverge significantly from three times the index's return. As an illustrative example of the volatility decay effect, let’s imagine the following scenario:  On day 1 after investing, The Nasdaq 100 (which I will call \"QQQ\" for simplicity, going forward) goes up by 10%. TQQQ increases by 30% (3x). On day 2, QQQ drops by 10%, leading to a 30% drop in TQQQ.  After day one, QQQ increases by 10%, so its new value would be 110% of the initial value. The TQQQ ETF, leveraging 3x, would increase by 30%, making the investment worth $130. After day 2, QQQ drops by 10% from its new level of 110%, bringing it down to 99% of its original value. The TQQQ ETF drops by 30% from its new value of $130, reducing it to $91. Even though the Nasdaq 100 is only down 1% from its original value after two days (100 to 99), the TQQQ ETF is down 9% ($100 to $91). In other terms, the leveraged ETF’s loss is disproportionately larger than the index’s loss due to the compounding of daily returns. In my opinion, TQQQ is suitable for experienced traders who actively manage their portfolios and can monitor positions closely. Short-term speculators that are looking to capitalize on short-term market movements could also consider this fund. There’s also a case to be made that TQQQ can be used as part of a broader hedging or tactical allocation strategy, for example in relation to short positions on QQQ. For investors seeking exposure to the Nasdaq 100 without the added risks of leverage, I recommend considering QQQM, which I covered in a recent article. This ETF offers exposure to the same underlying index, but without the complexities and risks associated with leverage. Risks to My Thesis The main counterpoint to my thesis is that during prolonged bull markets and multi-day holding periods, TQQQ can significantly outperform non-leveraged ETFs, even over the longer run. In other words, investors who correctly time the market can reap substantial rewards. This is something that is clearly stated in TQQQ's product web-page: For any holding period other than a day, your return may be higher or lower than the Daily Target. These differences may be significant. Smaller index gains/losses and higher index volatility contribute to returns worse than the Daily Target. Larger index gains/losses and lower index volatility contribute to returns better than the Daily Target. Conclusion The ProShares UltraPro QQQ ETF offers the allure of greater returns through leveraged exposure to the Nasdaq 100 Index. While this can be tempting, I believe it's important investors fully understand the associated risks before considering starting a position. TQQQ is best suited for short-term trading strategies and should not be considered a core, long-term holding in a portfolio. The complexities of daily rebalancing, volatility decay, and higher expenses make it unsuitable for most long-term investors.  As this is not an article about whether or not it is a good time to enter the Nasdaq 100, I am rating this ETF a “HOLD”, behind the use cases I described earlier. I highly recommend investors to not hold this fund for a long period of time, and do their due diligence to understand whether it is a tool that they can stomach.","kind":null,"is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"0","news_tag":"analysis","news_rank":0,"symbols":[],"gpt_button":0},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.0","shortVersion":"4.29.0","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2467601640"}