Billions Flowed Into New Leveraged ETFs Last Year. Now They're in Free Fall. — WSJ

By Jack PitcherInvestors who loaded up on funds that double down on their favorite stocks were rewarded with record highs. Now they are facing the downside.Several popular leveraged exchange-traded funds, which use borrowed money to amplify their bets on one or more asset, have erased most of their value in a matter of weeks. Among the worst performers: A fund that offers investors twice the exposure to shares of MicroStrategy, the software company-turned-bitcoin collector, has plunged 83% since touching its November high. Another ETF, which offers similar leverage on Tesla, is down 80%."I've been literally sick to my stomach," wrote one user on a Reddit investing forum who said they bought 200 shares of a leveraged MicroStrategy fund for $200 each on the day the shares peaked in November. On Wednesday, the shares closed at $29.80.Leveraged ETFs emerged last year as one of Wall Street's favorite roller coasters, as investors sought out ways to take bigger risks during the stock market's rally and money-management firms launched a bunch of new funds that capitalized on this demand. Assets under management in leveraged ETFs jumped by 51%, to $134 billion, in the 12 months ending Jan. 31, according to Morningstar.Funds that offer leveraged exposure to broad stock indexes have been offered in the U.S. for more than a decade. But leveraged single-stock ETFs, like those linked to MicroStrategy and Tesla, were first approved by regulators in 2022.The funds are designed for short-term traders and shouldn't be held for long periods, investment firms said.Take the largest leveraged fund, the $22 billion ProShares UltraPro QQQ, for example. The fund aims to generate three times the daily performance of the Nasdaq-100 index, up or down. On Wednesday, the Nasdaq-100 rose 1.3% and the leveraged fund rose 3.9%, approximately three times as much, as intended.But over a period longer than one day, returns begin to differ substantially. The Nasdaq-100 index has risen nearly 20% since the end of 2021, while the fund that offers leveraged daily exposure is down more than 25%. That is because it still hasn't recovered from steep losses suffered in 2022, when a Nasdaq bear market sent the leveraged fund down more than 80%.Morningstar analyst Jeffrey Ptak is concerned not all investors fully appreciate how quickly or severely leveraged funds' performance can veer off course. "These products have become very popular, to a worrisome extent," he said.The relatively new class of leveraged single-stock ETFs has taken investors on an even wilder ride. The three largest single-stock funds give holders leveraged exposure to Nvidia, Tesla and MicroStrategy — a trio of stocks popular with the day-trading crowd.The MicroStrategy funds offer the starkest example of the speed with which fortunes can be minted and then lost with single-stock funds. Defiance ETFs and Tuttle Capital Management launched competing products in August and September, and both became overnight hits, collecting billions in investor cash as they posted eye-popping gains.Early investors watched the price of the funds rise by more than 10-fold from September to November, the period in which MicroStrategy shares also soared.The funds have crashed since, and while they are still up since inception, the average investor is down a lot. The two funds have saddled investors with an estimated $1.7 billion in losses since launching seven months ago, according to a Morningstar analysis that takes into account the timing of inflows."It is like a thresher," Ptak said. "Money goes in and it doesn't come out."So far, investors haven't been deterred, opting to buy the dip.The biggest MicroStrategy fund, known by ticker MSTU, has posted almost $500 million of inflows year-to-date, including $312 million over the past month, according to FactSet.Write to Jack Pitcher at [email protected]