Bad news bears: Effects of expected market volatility on daily tracking error of leveraged bull and bear ETFs
Abstract
Purpose
This study aims to look into how volatility significantly impacts the tracking error for daily-rebalanced leveraged bull and bear ETFs.
Design/methodology/approach
Using Morningstar return data and Chicago Board Options Exchange (CBOE) volatility index (VIX) data, the paper examines the daily tracking error for leveraged bull and bear ETFs. Tracking error is defined as the difference between the daily returns for a leveraged bull or bear ETF and the multiple of the daily return for that ETF's respective underlying benchmark index.
Findings
Changes in the market VIX of the CBOE have a significant and opposite effect on the daily returns for both leveraged bull and bear ETFs. Furthermore, these effects are more pronounced for bear ETFs than similarly leveraged bull ETFs.
Research limitations/implications
The sample period (June 19, 2006 to September 22, 2009) contains periods of extraordinarily high volatility. Considering that the VIX reached an all-time high during this period, the results may be time-period specific and may not translate to other time periods.
Practical implications
The implication is that market timing may be feasible for enhancing daily returns for both leveraged bull and bear ETFs. However, any specific timing strategies go beyond the scope of this paper.
Originality/value
In this study, the paper examined the effects of expected market volatility on the daily tracking error of leveraged bull and bear ETFs. Specifically, the paper performed multiple linear regression analysis using Morningstar return data for the ETFs and their underlying benchmark and CBOE VIX data. The findings suggest that market timing could be beneficial for increasing daily yields for leveraged and inverse ETFs.
Keywords
Acknowledgements
The authors thank their anonymous reviewers for their detailed and valuable feedback. The authors are also deeply indebted to the managing editor (Don Johnson) for his insightful comments and suggestions.
Citation
Matthew Holzhauer, H., Lu, X., W. McLeod, R. and Mehran, J. (2013), "Bad news bears: Effects of expected market volatility on daily tracking error of leveraged bull and bear ETFs", Managerial Finance, Vol. 39 No. 12, pp. 1169-1187. https://doi.org/10.1108/MF-09-2012-0203
Publisher
:Emerald Group Publishing Limited
Copyright © 2013, Emerald Group Publishing Limited