Shorting Russia Stocks Three Times Among Best ETF Bets This Year

Updated on
  • Direxion Daily Russia Bear 3x Shares fund jumps 55% in U.S.
  • Market Vectors Russia ETF down 15% in '16 as stocks dip on oil

One of the best ways to make money in U.S. exchange-traded funds this year has been to bet against Russia.

The Direxion Daily Russia Bear 3x Shares, which makes a leveraged investment against Russian equities that essentially triples the wager, has returned 55 percent in the first two weeks of this year, putting it in the top 20 best performers among more than 1,600 U.S. ETFs, according to data compiled by Bloomberg. In the past year it ranked among the worst 25, with a 50 percent decline.

The fund has been narrowing last year’s total 67 percent slump as oil, which is Russia’s largest export and has the most influence on the direction of its financial markets, plunges to levels unseen since 2004. Economists surveyed by Bloomberg, who as recently as late December projected a 0.2 percent expansion in gross domestic product for 2016, now see a 0.5 percent slump, according to the median of 37 estimates.

“While there is a lot of uncertainty about how much more oil is going to fall, where the ruble is heading and what investors are going to do, some sophisticated traders are taking advantage of this uncertainty and reaping big returns,” Mohit Bajaj, director of ETF trading solutions at WallchBeth Capital, said by phone from New York last week. “This is an arbitrage game, but using a leveraged instrument is an extremely risky tool, as volatility can be insane.”

Leveraged ETFs use swaps or derivatives to try to amplify daily index returns, in contrast with conventional funds designed to match the performance. This means that gains from the leveraged funds may be multiplied, but they are also more fleeting. Leveraged products have come under scrutiny over several issues since 2009, when the U.S. Securities and Exchange Commission warned that they were typically “unsuitable” as long-term investments in volatile markets.

Ruble Plunge

The $37 million fund, which rises in value when Russian stocks fall, tumbled last year as one of the world’s most beat-up markets in 2014 showed signs of improvement, prompting strategists from UBS Group AG to Bank of America Corp. to turn bullish on the equity market.

The sentiment improved as tensions in Ukraine eased and President Vladimir Putin vowed to collaborate with the U.S. in the fight against Islamic State. The prospects for a rapprochement among the former Cold War adversaries faded as geopolitical tension escalated after Turkey, a NATO member, shot down a Russian warplane last month. The sentiment soured further as oil, which together with gas makes up about half the budget revenue, slumped to a 2004-low.

“As the most pessimistic oil scenarios are coming into play, we will probably see most analysts downgrade their Russia forecasts and change their outlooks,” Pavel Laberko, who helps manage $150 million in emerging-market assets at Union Bancaire Privee in London, said by phone last week. “There are a few sectors in the Russian market that will probably fare the storm better than others -- consumer staples and fertilizers -- but the broader perspective looks rather grim.”

ING Groep NV cut its estimate for Russia’s economic slump in 2016 to 0.7 percent from 0.5 percent on Friday. Societe Generale SA widened its forecast to a 1 percent decline. Barclays Plc’s forecast of flat growth this year is under “considerable downside risk,” analysts said last week.

In the week through January 13, Russian equity funds lost 0.5 percent of their total assets under management, analysts at Renaissance Capital said in a report last week, citing EPFR data. Emerging-market funds had outflows of 0.2 percent of their assets under management in the span.

The Market Vectors Russia ETF, the largest fund tracking the nation’s shares, slumped 7.1 percent to $12.39 on Friday, widening its retreat this year to 15 percent. The ruble has weakened 5.2 percent this year, the third-worst performance among emerging-market exchange rates against the greenback. Bank of America said last week that the decline appears to have been excessive. The ruble will probably strengthen on falling imports and lower dollar-denominated debt payments, ING’s Dmitry Polevoy saidalso last week.

“The roller-coaster ride that is the Russian market can present a good opportunity for making quick money,” Sergey Pigarev, a senior analyst at Rye, Man & Gor Securities, said by phone from Moscow. “Long-term players? It looks like there aren’t too many left.”