Beware of ETFs on Steroids

The tools traders use to play the market are getting more powerful—and potentially dangerous. Investors have long been able to buy leveraged ETFs, exchange-traded funds that aim to magnify the daily returns of the indexes they follow. On Dec. 1, Direxion Funds upped the ante by converting its “two-times” funds to provide triple the return of the indexes they track. Supersizing has been good business for Newton (Mass.)-based Direxion, which offers more than 40 leveraged ETFs, up from eight three years ago, according to Chief Marketing Officer Andy O’Rourke. Yet some critics say the pumped-up investment vehicles are adding to daily volatility and scaring off general investors from the market.

Laurence D. Fink, chairman of BlackRock, the world’s largest asset manager, has called leveraged ETFs “toxic.” At an investor conference on Nov. 16, Fink said he was surprised that some were approved by U.S. regulators. He compared them to the financial engineering of complex securities that ultimately led to the collapse of the U.S. mortgage market. “I do believe we have some responsibility for making sure that the market does not morph itself, the same way when I started in the mortgage market 35 years ago, watching a great market morph into a monster,” he said.