[Wiki article update - Inverse and leveraged ETFs]

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pkcrafter
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[Wiki article update - Inverse and leveraged ETFs]

Post by pkcrafter » Sat Nov 30, 2019 12:20 am

[Moved into a new thread from: Triple levered index funds, see below. --admin LadyGeek]

Poster Nisiprius has posted several articles on leveraged funds.

From the Wiki

https://www.bogleheads.org/wiki/Inverse ... raged_ETFs

Paul
When times are good, investors tend to forget about risk and focus on opportunity. When times are bad, investors tend to forget about opportunity and focus on risk.

HEDGEFUNDIE
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Re: Triple levered index funds

Post by HEDGEFUNDIE » Sat Nov 30, 2019 12:49 am

pkcrafter wrote:
Sat Nov 30, 2019 12:20 am
Poster Nisiprius has posted several articles on leveraged funds.

From the Wiki

https://www.bogleheads.org/wiki/Inverse ... raged_ETFs

Paul
The takeaway from the wiki:
These ETFs are for single-day or very-short-term "trading," speculating, gambling only. They are no good for long-term investing.
Check back in 20 years, by then I suspect I will have earned the right to revise this.
Last edited by HEDGEFUNDIE on Sat Nov 30, 2019 1:15 am, edited 1 time in total.

typical.investor
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Re: Triple levered index funds

Post by typical.investor » Sat Nov 30, 2019 1:15 am

HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:49 am
pkcrafter wrote:
Sat Nov 30, 2019 12:20 am
Poster Nisiprius has posted several articles on leveraged funds.

From the Wiki

https://www.bogleheads.org/wiki/Inverse ... raged_ETFs

Paul
The takeaway from the wiki:
These ETFs are for single-day or very-short-term "trading," speculating, gambling only. They are no good for long-term investing.
Check back in 20 years. I suspect I will have earned a right to revise this wiki by then.
I'm impatient.

SSO (2X S&P500) with a leveraged bond fund didn't lose money in the 12/31/2007-12/31/2010 example from the wiki that showed both leveraged funds and inverse funds losing more than the S&P 500. At least according to portfolio visualizer https://www.portfoliovisualizer.com/bac ... ion4_1=-50

The point from the wiki is that you need to adjust daily or you won't get the multiple of the fund. Well, rebalancing against a bond fund is essentially doing that. You reduce exposure after good performance and increase it after poor performance.
Last edited by typical.investor on Sat Nov 30, 2019 11:02 pm, edited 1 time in total.

am
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Re: Triple levered index funds

Post by am » Sat Nov 30, 2019 12:25 pm

HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:49 am
pkcrafter wrote:
Sat Nov 30, 2019 12:20 am
Poster Nisiprius has posted several articles on leveraged funds.

From the Wiki

https://www.bogleheads.org/wiki/Inverse ... raged_ETFs

Paul
The takeaway from the wiki:
These ETFs are for single-day or very-short-term "trading," speculating, gambling only. They are no good for long-term investing.
Check back in 20 years, by then I suspect I will have earned the right to revise this.
I am going to join your adventure with 10-20k. The comments on the wiki make me hesitate. Is the volatility decay taken into consideration with your strategy?

HEDGEFUNDIE
Posts: 3666
Joined: Sun Oct 22, 2017 2:06 pm

Re: Triple levered index funds

Post by HEDGEFUNDIE » Sat Nov 30, 2019 12:34 pm

am wrote:
Sat Nov 30, 2019 12:25 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:49 am
pkcrafter wrote:
Sat Nov 30, 2019 12:20 am
Poster Nisiprius has posted several articles on leveraged funds.

From the Wiki

https://www.bogleheads.org/wiki/Inverse ... raged_ETFs

Paul
The takeaway from the wiki:
These ETFs are for single-day or very-short-term "trading," speculating, gambling only. They are no good for long-term investing.
Check back in 20 years, by then I suspect I will have earned the right to revise this.
I am going to join your adventure with 10-20k. The comments on the wiki make me hesitate. Is the volatility decay taken into consideration with your strategy?
I describe the volatility bonus in full in the original post in my original thread.

am
Posts: 3075
Joined: Sun Sep 30, 2007 9:55 am

Re: Triple levered index funds

Post by am » Sat Nov 30, 2019 12:48 pm

HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:34 pm
am wrote:
Sat Nov 30, 2019 12:25 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:49 am
pkcrafter wrote:
Sat Nov 30, 2019 12:20 am
Poster Nisiprius has posted several articles on leveraged funds.

From the Wiki

https://www.bogleheads.org/wiki/Inverse ... raged_ETFs

Paul
The takeaway from the wiki:
These ETFs are for single-day or very-short-term "trading," speculating, gambling only. They are no good for long-term investing.
Check back in 20 years, by then I suspect I will have earned the right to revise this.
I am going to join your adventure with 10-20k. The comments on the wiki make me hesitate. Is the volatility decay taken into consideration with your strategy?
I describe the volatility bonus in full in the original post in my original thread.
Perhaps the wiki should offer a more balanced approach rather than calling it gambling, especially after you outlined your strategy? Thanks for sharing it by the way. Hope it works out!

HEDGEFUNDIE
Posts: 3666
Joined: Sun Oct 22, 2017 2:06 pm

Re: Triple levered index funds

Post by HEDGEFUNDIE » Sat Nov 30, 2019 1:22 pm

am wrote:
Sat Nov 30, 2019 12:48 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:34 pm
am wrote:
Sat Nov 30, 2019 12:25 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:49 am
pkcrafter wrote:
Sat Nov 30, 2019 12:20 am
Poster Nisiprius has posted several articles on leveraged funds.

From the Wiki

https://www.bogleheads.org/wiki/Inverse ... raged_ETFs

Paul
The takeaway from the wiki:
These ETFs are for single-day or very-short-term "trading," speculating, gambling only. They are no good for long-term investing.
Check back in 20 years, by then I suspect I will have earned the right to revise this.
I am going to join your adventure with 10-20k. The comments on the wiki make me hesitate. Is the volatility decay taken into consideration with your strategy?
I describe the volatility bonus in full in the original post in my original thread.
Perhaps the wiki should offer a more balanced approach rather than calling it gambling, especially after you outlined your strategy? Thanks for sharing it by the way. Hope it works out!
It is clearly a one-sided article. The only counterpoint offered is a reference to an article written by ProShares employees, which obviously was chosen to undercut its credibility. Whereas in my Excellent Adventure threads folks have posted numerous articles by academics who have studied these funds. None of them are referenced in the wiki.

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Phineas J. Whoopee
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Re: Triple levered index funds

Post by Phineas J. Whoopee » Sat Nov 30, 2019 1:52 pm

Leveraged funds, inverse or otherwise, do not work the way people assume they do based only on their names. I endorse the wiki article linked upthread.

Inverse funds do not short stocks. The way they manage assets is completely different.

Read the article. Feel free to disbelieve or ridicule it. That often happens. HEDGEFUNDIE (that's the way he writes it) is engaged in an attempt at an existence proof that math is not math. Whether that poster personally ends up with ten million dollars (the expressed goal, starting with one hundred thousand) will not settle the question of whether math is math one way or the other. On a claimed two hundred fifty thousand annual salary homelessness is unlikely regardless of the investing outcome. Not everyone has as much financial backstop.

But read the article.

PJW

am
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Re: Triple levered index funds

Post by am » Sat Nov 30, 2019 2:06 pm

Phineas J. Whoopee wrote:
Sat Nov 30, 2019 1:52 pm
Leveraged funds, inverse or otherwise, do not work the way people assume they do based only on their names. I endorse the wiki article linked upthread.

Inverse funds do not short stocks. The way they manage assets is completely different.

Read the article. Feel free to disbelieve or ridicule it. That often happens. HEDGEFUNDIE (that's the way he writes it) is engaged in an attempt at an existence proof that math is not math. Whether that poster personally ends up with ten million dollars (the expressed goal, starting with one hundred thousand) will not settle the question of whether math is math one way or the other. On a claimed two hundred fifty thousand annual salary homelessness is unlikely regardless of the investing outcome. Not everyone has as much financial backstop.

But read the article.

PJW
What do you mean “existence proof that math is not math”? Thanks.

MotoTrojan
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Re: Triple levered index funds

Post by MotoTrojan » Sat Nov 30, 2019 2:10 pm

HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:34 pm
am wrote:
Sat Nov 30, 2019 12:25 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:49 am
pkcrafter wrote:
Sat Nov 30, 2019 12:20 am
Poster Nisiprius has posted several articles on leveraged funds.

From the Wiki

https://www.bogleheads.org/wiki/Inverse ... raged_ETFs

Paul
The takeaway from the wiki:
These ETFs are for single-day or very-short-term "trading," speculating, gambling only. They are no good for long-term investing.
Check back in 20 years, by then I suspect I will have earned the right to revise this.
I am going to join your adventure with 10-20k. The comments on the wiki make me hesitate. Is the volatility decay taken into consideration with your strategy?
I describe the volatility bonus in full in the original post in my original thread.
UPRO has moments of bonus but TMF has significantly underperformed a naive 3x long-bond return since inception, even as rates have dropped. I don’t see any bonus on the bond side.

HEDGEFUNDIE
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Re: Triple levered index funds

Post by HEDGEFUNDIE » Sat Nov 30, 2019 2:12 pm

Phineas J. Whoopee wrote:
Sat Nov 30, 2019 1:52 pm
Leveraged funds, inverse or otherwise, do not work the way people assume they do based only on their names. I endorse the wiki article linked upthread.

Inverse funds do not short stocks. The way they manage assets is completely different.

Read the article. Feel free to disbelieve or ridicule it. That often happens. HEDGEFUNDIE (that's the way he writes it) is engaged in an attempt at an existence proof that math is not math. Whether that poster personally ends up with ten million dollars (the expressed goal, starting with one hundred thousand) will not settle the question of whether math is math one way or the other. On a claimed two hundred fifty thousand annual salary homelessness is unlikely regardless of the investing outcome. Not everyone has as much financial backstop.

But read the article.

PJW
First of all, my household income is $500k.

Second of all, as for "math is not math", the wiki article describes two cherry picked cases of volatility decay. While totally ignoring the real-life example of UPRO performance since inception in 2009:

Image

Tell me, what math in the wiki article anticipated this outcome?

am
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Re: Triple levered index funds

Post by am » Sat Nov 30, 2019 2:14 pm

MotoTrojan wrote:
Sat Nov 30, 2019 2:10 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:34 pm
am wrote:
Sat Nov 30, 2019 12:25 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:49 am
pkcrafter wrote:
Sat Nov 30, 2019 12:20 am
Poster Nisiprius has posted several articles on leveraged funds.

From the Wiki

https://www.bogleheads.org/wiki/Inverse ... raged_ETFs

Paul
The takeaway from the wiki:
These ETFs are for single-day or very-short-term "trading," speculating, gambling only. They are no good for long-term investing.
Check back in 20 years, by then I suspect I will have earned the right to revise this.
I am going to join your adventure with 10-20k. The comments on the wiki make me hesitate. Is the volatility decay taken into consideration with your strategy?
I describe the volatility bonus in full in the original post in my original thread.
UPRO has moments of bonus but TMF has significantly underperformed a naive 3x long-bond return since inception, even as rates have dropped. I don’t see any bonus on the bond side.
Is that why you use edv? How does that back test instead of tmf? Would you use 55 upro and 45 edv to get similar results?

MotoTrojan
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Re: Triple levered index funds

Post by MotoTrojan » Sat Nov 30, 2019 2:19 pm

am wrote:
Sat Nov 30, 2019 2:14 pm
MotoTrojan wrote:
Sat Nov 30, 2019 2:10 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:34 pm
am wrote:
Sat Nov 30, 2019 12:25 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:49 am


The takeaway from the wiki:



Check back in 20 years, by then I suspect I will have earned the right to revise this.
I am going to join your adventure with 10-20k. The comments on the wiki make me hesitate. Is the volatility decay taken into consideration with your strategy?
I describe the volatility bonus in full in the original post in my original thread.
UPRO has moments of bonus but TMF has significantly underperformed a naive 3x long-bond return since inception, even as rates have dropped. I don’t see any bonus on the bond side.
Is that why you use edv? How does that back test instead of tmf? Would you use 55 upro and 45 edv to get similar results?
Yes. EDV has less duration though so it won’t spike like TMF does and potentially save the day. Thus I went with 43/57 UPRO/EDV which is a similar ratio of volatility historically, but less overall leverage of course. 55/45 UPRO/EDV would be a little too much of an equity tilt for my blood.

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Phineas J. Whoopee
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Re: Triple levered index funds

Post by Phineas J. Whoopee » Sat Nov 30, 2019 2:20 pm

HEDGEFUNDIE wrote:
Sat Nov 30, 2019 2:12 pm
...
Tell me, what math in the wiki article anticipated this outcome?
None whatsoever.

PJW

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Phineas J. Whoopee
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Re: Triple levered index funds

Post by Phineas J. Whoopee » Sat Nov 30, 2019 2:25 pm

am wrote:
Sat Nov 30, 2019 2:06 pm
Phineas J. Whoopee wrote:
Sat Nov 30, 2019 1:52 pm
Leveraged funds, inverse or otherwise, do not work the way people assume they do based only on their names. I endorse the wiki article linked upthread.

Inverse funds do not short stocks. The way they manage assets is completely different.

Read the article. Feel free to disbelieve or ridicule it. That often happens. HEDGEFUNDIE (that's the way he writes it) is engaged in an attempt at an existence proof that math is not math. Whether that poster personally ends up with ten million dollars (the expressed goal, starting with one hundred thousand) will not settle the question of whether math is math one way or the other. On a claimed two hundred fifty thousand annual salary homelessness is unlikely regardless of the investing outcome. Not everyone has as much financial backstop.

But read the article.

PJW
What do you mean “existence proof that math is not math”? Thanks.
Math says there can be probabalistic outcomes that are unusual. HEDGEFUNDIE is attempting to achieve an improbable outcome, but doing so would not prove it's probable.

HEDGEFUNDIE: please pardon me for understating your household income by a factor of two. I seemed to recall something you wrote, but it's wrong. Nonetheless, my point stands that regardless of investment outcome homelessness is unlikely for you and your family.

Congratulations on your fabulous household income.

PJW

am
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Re: Triple levered index funds

Post by am » Sat Nov 30, 2019 2:32 pm

Phineas J. Whoopee wrote:
Sat Nov 30, 2019 2:25 pm
am wrote:
Sat Nov 30, 2019 2:06 pm
Phineas J. Whoopee wrote:
Sat Nov 30, 2019 1:52 pm
Leveraged funds, inverse or otherwise, do not work the way people assume they do based only on their names. I endorse the wiki article linked upthread.

Inverse funds do not short stocks. The way they manage assets is completely different.

Read the article. Feel free to disbelieve or ridicule it. That often happens. HEDGEFUNDIE (that's the way he writes it) is engaged in an attempt at an existence proof that math is not math. Whether that poster personally ends up with ten million dollars (the expressed goal, starting with one hundred thousand) will not settle the question of whether math is math one way or the other. On a claimed two hundred fifty thousand annual salary homelessness is unlikely regardless of the investing outcome. Not everyone has as much financial backstop.

But read the article.

PJW
What do you mean “existence proof that math is not math”? Thanks.
Math says there can be probabalistic outcomes that are unusual. HEDGEFUNDIE is attempting to achieve an improbable outcome, but doing so would not prove it's probable.

HEDGEFUNDIE: please pardon me for understating your household income by a factor of two. I seemed to recall something you wrote, but it's wrong. Nonetheless, my point stands that regardless of investment outcome homelessness is unlikely for you and your family.

Congratulations on your fabulous household income.

PJW
Why do you think he is trying to achieve an improbable outcome? He lays his case out in a very cogent manner. Seems like a good to great outcome would be more likely than not.

EddyB
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Re: Triple levered index funds

Post by EddyB » Sat Nov 30, 2019 5:52 pm

Phineas J. Whoopee wrote:
Sat Nov 30, 2019 1:52 pm
Leveraged funds, inverse or otherwise, do not work the way people assume they do based only on their names. I endorse the wiki article linked upthread.

Inverse funds do not short stocks. The way they manage assets is completely different.

Read the article. Feel free to disbelieve or ridicule it. That often happens. HEDGEFUNDIE (that's the way he writes it) is engaged in an attempt at an existence proof that math is not math. Whether that poster personally ends up with ten million dollars (the expressed goal, starting with one hundred thousand) will not settle the question of whether math is math one way or the other. On a claimed two hundred fifty thousand annual salary homelessness is unlikely regardless of the investing outcome. Not everyone has as much financial backstop.

But read the article.

PJW
The “math” may be one thing with respect to a single leveraged ETF, but the conclusion—that they “are for single-day or very-short-term ‘trading,’ speculating, gambling only. They are no good for long-term investing.”—is an opinion, and Hedgefundie’s thread includes a whole lot of evidence that one may use a leveraged ETF as a part of a strategy that isn’t as simply labeled by those criticisms. Pure oxygen has some major risks, but we all enjoy having it mixed into our atmosphere.

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Re: Triple levered index funds

Post by Nate79 » Sat Nov 30, 2019 9:43 pm

It's pretty sad when such ignorance is still in the wiki on these leveraged ETFs.

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siamond
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Re: Triple levered index funds

Post by siamond » Sat Nov 30, 2019 11:37 pm

HEDGEFUNDIE wrote:
Sat Nov 30, 2019 1:22 pm
am wrote:
Sat Nov 30, 2019 12:48 pm
Perhaps the wiki should offer a more balanced approach rather than calling it gambling, especially after you outlined your strategy? Thanks for sharing it by the way. Hope it works out!
It is clearly a one-sided article. The only counterpoint offered is a reference to an article written by ProShares employees, which obviously was chosen to undercut its credibility. Whereas in my Excellent Adventure threads folks have posted numerous articles by academics who have studied these funds. None of them are referenced in the wiki.
I can see why the current wiki page can be viewed as overly black & white, and I agree some changes may be in order. Most of the content is factual though, focusing in long-term risks associated with such leverage funds. Unfortunately, this doesn't match terribly well the title of the page. I would also observe that HEDGEFUNDIE and friends are essentially promoting a portfolio-level strategy. Which is NOT the same thing as analyzing the risks of investing in a single leveraged fund, as discussed in the wiki page.

It seems to be that a reasonable quick fix would be to:
a) rename the Wiki page as "Long-term risks of Inverse and leveraged ETFs"
b) water down a bit some sentences, e.g. instead of "The purpose of this article is to explain why these ETFs are not intended for long-term investments.", say something like "The purpose of this article is to explain why these ETFs present significant risks for long-term investments."
c) rephrase the summary along the same lines
d) proponents of leverage funds are welcome to suggest an article or two that could be used in the "Opposing view" section, which I'd suggest to introduce with a sentence indicating that even if individual leveraged funds present significant long-term risks, there might be ways to reduce such risks at the portfolio level (I insist on "might", nothing stronger!). We could even indicate that there is an ongoing experiment in this respect and point to the corresponding thread.

Personally, I can see both sides of the coin. I spent long hours helping with the historical modeling of leveraged portfolios because I was curious. I am NOT convinced that the case is strong enough, but I am NOT convinced either that the case should be summarily dismissed. As a wiki editor and a somewhat neutral party, I am open to volunteer to take a stab at implementing the quick fix I suggested, if this would be viewed as reasonable by both sides, and have it peer-reviewed. I would NOT volunteer to significantly expand the scope of this wiki page with a detailed discussion of portfolio-level considerations though, nor to have to arbiter a big screaming match...

Constructive feedback welcome.

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Re: Triple levered index funds

Post by HEDGEFUNDIE » Sat Nov 30, 2019 11:56 pm

siamond wrote:
Sat Nov 30, 2019 11:37 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 1:22 pm
am wrote:
Sat Nov 30, 2019 12:48 pm
Perhaps the wiki should offer a more balanced approach rather than calling it gambling, especially after you outlined your strategy? Thanks for sharing it by the way. Hope it works out!
It is clearly a one-sided article. The only counterpoint offered is a reference to an article written by ProShares employees, which obviously was chosen to undercut its credibility. Whereas in my Excellent Adventure threads folks have posted numerous articles by academics who have studied these funds. None of them are referenced in the wiki.
I can see why the current wiki page can be viewed as overly black & white, and I agree some changes may be in order. Most of the content is factual though, focusing in long-term risks associated with such leverage funds. Unfortunately, this doesn't match terribly well the title of the page. I would also observe that HEDGEFUNDIE and friends are essentially promoting a portfolio-level strategy. Which is NOT the same thing as analyzing the risks of investing in a single leveraged fund, as discussed in the wiki page.

It seems to be that a reasonable quick fix would be to:
a) rename the Wiki page as "Long-term risks of Inverse and leveraged ETFs"
b) water down a bit some sentences, e.g. instead of "The purpose of this article is to explain why these ETFs are not intended for long-term investments.", say something like "The purpose of this article is to explain why these ETFs present significant risks for long-term investments."
c) rephrase the summary along the same lines
d) proponents of leverage funds are welcome to suggest an article or two that could be used in the "Opposing view" section, which I'd suggest to introduce with a sentence indicating that even if individual leveraged funds present significant long-term risks, there might be ways to reduce such risks at the portfolio level (I insist on "might", nothing stronger!). We could even indicate that there is an ongoing experiment in this respect and point to the corresponding thread.

Personally, I can see both sides of the coin. I spent long hours helping with the historical modeling of leveraged portfolios because I was curious. I am NOT convinced that the case is strong enough, but I am NOT convinced either that the case should be summarily dismissed. As a wiki editor and a somewhat neutral party, I am open to volunteer to take a stab at implementing the quick fix I suggested, if this would be viewed as reasonable by both sides, and have it peer-reviewed. I would NOT volunteer to significantly expand the scope of this wiki page with a detailed discussion of portfolio-level considerations though, nor to have to arbiter a big screaming match...

Constructive feedback welcome.
I would support such an effort.

I would also suggest adding a short section on how these ETFs work. Both their components and their return drivers.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by LadyGeek » Sun Dec 01, 2019 5:13 pm

The discussion of Triple levered index funds got split between the OP's question (Anyone have experience with leveraged ETFs?) and the wiki article (needs a lot of work...). Let's use this thread to work on the wiki article.

I have created a draft article: User:Siamond/Inverse and leveraged ETFs

All wiki editors are welcome to update the article. Members can post suggestions here (a wiki editor will incorporate the content). Once we have a consensus, the draft page content will replace the current "live" article.

Anyone wishing to become a wiki editor and edit the page yourself, please PM me.
Wiki To some, the glass is half full. To others, the glass is half empty. To an engineer, it's twice the size it needs to be.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by HEDGEFUNDIE » Sun Dec 01, 2019 5:28 pm

I would suggest the following additions:

What is a daily leveraged ETF?
A daily leveraged ETF holds a combination of derivatives and actual securities to track a multiple of the underlying index's daily performance.

Let's examine UPRO, which promises to deliver 3x the daily performance of the S&P 500. It does this by holding 66% individual S&P 500 stocks, nominal exposure to 222% of the S&P 500 through total return swaps, and 12% S&P futures. Add it all up, and you get exposure to 300% of the S&P 500’s daily performance.

Total return swaps are contracts between the ETF and major investment banks. For UPRO, every day the banks pay the ETF the value of the S&P 500’s total return for that day, and in return the ETF pays the banks a pre-negotiated rate of interest, which is close to the short term treasury rate.

How much does the leverage cost?
As described above, the swaps in the ETF borrow money at a short term rate.

As of November 2018, the borrow rate of UPRO's swaps was 2.87%. This cost is on top of the 0.92% expense ratio.

As of October 2018, the borrow rate of TMF's swaps was 1.83%. This cost is on top of the 1.09% expense ratio.

So I will get 3x of the daily performance of the underlying index, but why does this multiple break down over longer periods?
This "volatility decay" is nothing more than the simple arithmetic of compounding returns.

Let's say over five days the daily returns of the index are +1%, -2%, +3%, -4%, +5%, and you start with $100.
At the end of the five days your $100.00 becomes $102.76.
Now let's use a 3X leveraged ETF. Ignoring ER and other costs, the daily returns are +3%, -6%, +9%, -12%, +15%.
At the end of the five days your $100.00 becomes $106.80.

$6.80 is not 3X $2.76. That's the "decay", and it's nothing more than simple math. This dynamic can also work in your favor: if you check the performance of UPRO against the S&P 500 since inception, you will see that UPRO has delivered 5x the returns of the index. If an index tends to go up over time (i.e. exhibits positive momentum), a 3x leveraged ETF will tend to perform better than 3x the index over the long term. Therefore, depending on the volatility and momentum of the underlying index, a leveraged ETF may exhibit either volatility decay or bonus.

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siamond
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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by siamond » Sun Dec 01, 2019 6:15 pm

Let me take a stab at the incremental changes I had in mind. Will share later tonight, with some commentary.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by LadyGeek » Sun Dec 01, 2019 9:49 pm

HEDGEFUNDIE wrote:
Sun Dec 01, 2019 5:28 pm
Let's say over five days the daily returns of the index are +1%, -2%, +3%, -4%, +5%, and you start with $100.
At the end of the five days your $100.00 becomes $102.76.
Now let's use a 3X leveraged ETF. Ignoring ER and other costs, the daily returns are +3%, -6%, +9%, -12%, +15%.
At the end of the five days your $100.00 becomes $106.80.
I match your $102.76, but not the $106.80. For the 3X leveraged, I get $115.00. What am I doing wrong? I'm using a spreadsheet.

For example, $101.00 = $100*(1+1%)
$102.76 = 97.87*(1+ 5%)

Code: Select all

	100
1.00%	101.00
-2.00%	98.98
3.00%	101.95
-4.00%	97.87
5.00%	102.76 <--
Leveraged x3:

Code: Select all

	100
3.00%	103.00
-6.00%	94.00
9.00%	109.00
-12.00%	88.00
15.00%	115.00 <--
Let's flip the sign of the returns, so:

Code: Select all

	100
-3.00%	97.00
6.00%	106.00
-9.00%	91.00
12.00%	112.00
-15.00%	85.00 <--
$100 has now become $85.
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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by pepys » Sun Dec 01, 2019 10:01 pm

LadyGeek wrote:
Sun Dec 01, 2019 9:49 pm
HEDGEFUNDIE wrote:
Sun Dec 01, 2019 5:28 pm
Let's say over five days the daily returns of the index are +1%, -2%, +3%, -4%, +5%, and you start with $100.
At the end of the five days your $100.00 becomes $102.76.
Now let's use a 3X leveraged ETF. Ignoring ER and other costs, the daily returns are +3%, -6%, +9%, -12%, +15%.
At the end of the five days your $100.00 becomes $106.80.
I match your $102.76, but not the $106.80. For the 3X leveraged, I get $115.00. What am I doing wrong? I'm using a spreadsheet.

For example, $101.00 = $100*(1+1%)
$102.76 = 97.87*(1+ 5%)

Code: Select all

	100
1.00%	101.00
-2.00%	98.98
3.00%	101.95
-4.00%	97.87
5.00%	102.76 <--
Leveraged x3:

Code: Select all

	100
3.00%	103.00
-6.00%	94.00
9.00%	109.00
-12.00%	88.00
15.00%	115.00 <--
Let's flip the sign of the returns, so:

Code: Select all

	100
-3.00%	97.00
6.00%	106.00
-9.00%	91.00
12.00%	112.00
-15.00%	85.00 <--
$100 has now become $85.
You're multiplying each percentage by 100 instead of the updated amount in the last two examples (103 going down 6% is 96.82, not 94).

Code: Select all

	100
3.00%	103.00
-6.00%	96.82
9.00%	105.53
-12.00%	92.87
15.00%	106.80 <--
"Give me enough leverage and a fund on which to place it, and I shall move the world"

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by siamond » Sun Dec 01, 2019 10:22 pm

Ok, I took a stab at tweaking the draft wiki article Ladygeek was kind enough to make for us:
https://www.bogleheads.org/wiki/User:Si ... raged_ETFs

Here are the changes I introduced:
*) changed the title to reflect a narrower scope more consistent with the actual content: Inverse and leveraged ETFs: long-term risks
*) in addition, Nisiprius suggested the addition of a warning from SEC/FINRA which seems quite pertinent to the matter
*) changed the introduction to focus the purpose: explain why these ETFs present significant risks as long-term investments.
*) added references to Proshares UPRO (see next point)
*) added a new section (How does a daily leveraged ETF work?) based on the first part of what HEDGEFUNDIE proposed. I don't think we should go in cost details though, given the scope of this article. The point is just to complement the overview. The new section uses UPRO as an example. I thought the wording was well done, I didn't change a thing. Maybe add a formal reference in there though?
*) no change to the main core of the article, besides eliminating a not so useful sentence "head or tail, you lose"
*) rephrased the summary to stay focused on risks and discouraging users from using such vehicles for their regular savings (HEDGEFUNDIE and friends have been rightfully clear from the start that such experiment should be kept very separate from a regular AA, I hope nobody would disagree on this).
*) added an introductory sentence to the 'Opposing View' section, referring to risk parity concept (with a reference to Investopia) possibly mitigating the risks discussed in the article

On the last point, although the article being referenced does broaden perspectives about possible uses of leveraged funds beyond daily speculation, I do see the point that this might not the best reference to provide a pointer to risk parity/leveraging ideas. If somebody has a suggestion here (another relevant article?), please speak up. Then it could be a good segue to provide a reference to one of the ongoing threads about such strategy.

I also don't like very much the 'opposing view' verbiage. It seems to me that the risks involved with such LETF products are fairly well acknowledged by all parties. The FINRA warning is spot on in my humble opinion (I would paraphrase as 'do what you want if you really wish to, but then keep your eyes wide open'). This extra section is there to provide additional pointers for other lines of thinking imho, not to dispute the core of the article. Suggestions welcome for a new section title?
Last edited by siamond on Sun Dec 01, 2019 10:28 pm, edited 1 time in total.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by LadyGeek » Sun Dec 01, 2019 10:26 pm

pepys wrote:
Sun Dec 01, 2019 10:01 pm
You're multiplying each percentage by 100 instead of the updated amount in the last two examples (103 going down 6% is 96.82, not 94).
Thanks! It's obvious in hindsight. :oops: I repeat HEDGEFUNDIE's results.

Flipping the sign of the returns now results in $89.

Code: Select all

	100.00
-3.00%	97.00
6.00%	102.82
-9.00%	93.57
12.00%	104.79
-15.00%	89.08
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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by LadyGeek » Sun Dec 01, 2019 10:49 pm

siamond wrote:
Sun Dec 01, 2019 10:22 pm
*) changed the title to reflect a narrower scope more consistent with the actual content: Inverse and leveraged ETFs: long-term risks
I disagree with the title change, as the intent is to introduce new investors to the concept of leveraged ETFs. Appending "long-term risks" to the title suggests there is another page containing a general overview.
siamond wrote:
Sun Dec 01, 2019 10:22 pm
*) added an introductory sentence to the 'Opposing View' referring to risk parity concept (with a reference to Investopia) possibly mitigating the risks discussed in the article

On the last point, although the article being referenced does broaden perspectives about possible uses of leveraged funds beyond daily speculation, I do see the point that this might not the best reference to provide a pointer to risk parity/leveraging ideas. If somebody has a suggestion here (another relevant article?), please speak up. Then it could be a good segue to provide a reference to one of the ongoing threads about such strategy.

I also don't like very much the 'opposing view' verbiage. It seems to me that the risks involved with such LETF products are fairly well acknowledged by all parties. The FINRA warning is spot on in my humble opinion (I would paraphrase as 'do what you want if you really wish to, but then keep your eyes wide open'). This extra section is there to provide additional pointers for other lines of thinking imho, not to dispute the core of the article. Suggestions welcome for a new section title?
The 'Opposing View' section references a 2009 website article (Understanding Returns Of Leveraged And Inverse Funds).

For a more current opinion, Larry Swedroe prefers a diversified total market approach to risk parity. From my post in HEDGEFUNDIE's thread: Subject: HEDGEFUNDIE's excellent adventure [risk parity strategy using 3x leveraged ETFs]
LadyGeek wrote:
Mon Aug 05, 2019 10:01 pm
For those considering this approach, please listen to Rick Ferri's podcast interview with Larry Swedroe.

Subject: Larry Swedroe: Next "Bogleheads on Investing" podcast guest
LadyGeek wrote:
Mon Aug 05, 2019 9:57 pm
A bit late, but I just listened to the podcast.

I'm wondering how many listeners understood Larry's very quick mention of "Cap M" during the first part of the interview.

This is the CAPM - Capital Asset Pricing Model, "precursor" to the Fama and French three-factor model.

The Cross-Section of Expected Stock Returns is the seminal paper which started it all and is the paper referenced by Larry.

================
The first question Larry answered was about "risk parity". I assume this is a result of the popular discussion: HEDGEFUNDIE's excellent adventure [risk parity strategy using 3x leveraged ETFs]

I strongly encourage those considering this strategy to listen to Larry's opinion. In addition to a brief overview of the risk parity concept, Larry compares risk parity vs. a diversified total market approach. Consider his opinion before making any changes based on the above thread.
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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by siamond » Sun Dec 01, 2019 11:05 pm

LadyGeek wrote:
Sun Dec 01, 2019 10:49 pm
siamond wrote:
Sun Dec 01, 2019 10:22 pm
*) changed the title to reflect a narrower scope more consistent with the actual content: Inverse and leveraged ETFs: long-term risks
I disagree with the title change, as the intent is to introduce new investors to the concept of leveraged ETFs. Appending "long-term risks" to the title suggests there is another page containing a general overview.
Well, we could have another page detailing LETF concepts (there is no shortage of such academic literature though), but fact is the content of this article is focused on risks. I was only trying to provide an incremental improvement to the existing page to address the concerns that were raised. Not to open a big new project (LETFs are NOT simple vehicles). Personally, I'd rather do a good job with a narrow focus and stop there.

This perspective actually made me realize that we should probably add more verbiage about drawdowns. The "Will likely differ in amount" section isn't terribly explicit about drawdowns, although the chart is telling. I think we should add a few numbers in there. Will think more about it tomorrow...

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by HEDGEFUNDIE » Sun Dec 01, 2019 11:12 pm

The article is still too one sided. It also misses the real risk of holding a leveraged ETF on its own - huge max drawdowns.

I would suggest the following structural changes, in order on the page:

1. Within "Comparison between "daily" and "long-term" results", at the end add my paragraph about how momentum and volatility can determine whether you get a positive or negative result with these ETFs over time. Then go into the examples with charts:
2. Combine the "Will likely differ in amount" and "And possibly differ in direction" sections into "Negative effects of volatility on daily leveraged ETFs"
3. Add a new "Positive effects of volatility on daily leveraged ETFs" that shows UPRO returning 8.25x the S&P 500 since UPRO's inception in June 2009.
3. Add a new "Drawdown Risk" section: "While returns can vary (per the above examples), volatility will always be the stated multiple of the underlying index. In other words, if the S&P 500's annual volatility is 15%, then UPRO's annual volatility is 45%"
Then show how bad 45% volatility can be. Use siamond's simulated UPRO data to chart the 98% drawdown of UPRO during the Dotcom Bust and the Financial Crisis, and how long it took in each case to recover.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by siamond » Sun Dec 01, 2019 11:36 pm

HEDGEFUNDIE wrote:
Sun Dec 01, 2019 11:12 pm
The article is still too one sided. It also misses the real risk of holding a leveraged ETF on its own - huge max drawdowns.
I don't disagree. Just going one step at a time. Will reflect on your suggestions. For sure, the eye-popping volatility and drawdown numbers have to be made more explicit. This isn't for the faint of heart! :shock:

EDIT 1: after sleeping on it, I acknowledged that the cost information sentence you provided about UPRO would flow well with the 'how does it work' section and would nicely quantify the considerations above. So I added it. Since we're staying focused on S&P 500 2x/3x for now (which seems good enough), I didn't include the TMF cost breakdown.

EDIT 2: I'll take a stab at a separate section providing various stats about volatility and another illustrating/quantifying drawdowns, comparing 2x, 3x and regular index. As you know, I have all the numbers handy (actuals and simulated). Probably later tonight.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by LadyGeek » Mon Dec 02, 2019 10:08 pm

Reading the draft page as a new investor (the target audience), I had a lot of difficulty understanding the section which compared the daily vs. long-term risk.

Before siamond could take another stab at the article, I revised the section title from "Comparison between "daily" and "long-term" results" to "Daily results are significantly different than long-term". Then, I revised the underlying format, quotations, and section titles to clarify the intent. IMHO, the content is much easier to follow and understand.

See: User:Siamond/Inverse and leveraged ETFs: long-term risks

Administrative note: I did not capitalize the first letter in the section titles of "differ in amount" and "differ in direction" - they're direct quotes from the higher level section.

=============
Then, I looked at "An opposing point of view". I recommend removing this section entirely. Why? I think it's misleading to new investors. Stating "leveraged and inverse funds have been and can be used successfully for periods longer than one day." without any further info may cause some readers to buy these funds and hope for the best.

Clear guidance is needed to put risk parity in the proper perspective, especially how it relates to the Bogleheads investment philosophy.

Please see the transcript of Rick Ferri's podcast interview with Larry Swedroe: Bogleheads on Investing- Episode 012 transcript | The John C. Bogle Center for Financial Literacy Search for "risk parity".*
Rick Ferri: I have a couple of people who asked about risk parity. So I let you go ahead and explain quickly what risk parity is, and you can give your opinion.

Larry Swedroe: Right? So here’s the basic concept of risk parity, or why people should at least be thinking about it...

...The idea of risk parity, then, is to put equal amounts of money in every one of the assets that you could identify so you end up having an equal amount of risk. So that’s the concept, directionally, that makes perfect sense and logic. I would say, however, I don’t have the same degree of confidence in all of these factors or asset classes, so I want to put more of my weight in my portfolio on things I have the most confidence in.

...Bottom line is risk parity is a good general idea, but I think it’s not the right answer. You should not be looking to have exactly the same amount of risk in each of your assets. You should put more weight on the ones you personally have the most confidence in that will deliver above market returns or have unique risk that are rewarded.
I left out a lot of Larry's comments, so read the entire section.

We can certainly create a new wiki article on HEDGEFUNDIE's popular thread (HEDGEFUNDIE's excellent adventure [risk parity strategy using 3x leveraged ETFs]) and then link to it from the leveraged ETF article. Or, provide a brief overview in the proper context.

* Many thanks to the member volunteers who spent quite a bit of time entering and proof-reading the transcripts.

=======================
I still disagree with the article's title and think it should be renamed back to "Inverse and leveraged ETFs". With the above changes, the article is a top-level overview that leads into a discussion of how leveraged ETFs work. The fact that long-term results don't match the short-term (daily) results is a basic property of these funds - which happens to be a risk.
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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by siamond » Mon Dec 02, 2019 11:59 pm

LadyGeek wrote:
Mon Dec 02, 2019 10:08 pm
I revised the section title from "Comparison between "daily" and "long-term" results" to "Daily results are significantly different than long-term". Then, I revised the underlying format, quotations, and section titles to clarify the intent. IMHO, the content is much easier to follow and understand.
Thanks, this does improve readability. I think it will flow well with the addition of new sections about volatility and drawdowns. Which I had no time to work on today! Later!
LadyGeek wrote:
Mon Dec 02, 2019 10:08 pm
Then, I looked at "An opposing point of view". I recommend removing this section entirely. Why? I think it's misleading to new investors. Stating "leveraged and inverse funds have been and can be used successfully for periods longer than one day." without any further info may cause some readers to buy these funds and hope for the best.
This page (or this thread) isn't the place to discuss pros & cons of a risk parity approach and I have my own doubts about such approach. But I'd like to stay open-minded, keep this section, and provide a LINK to an article suggesting such risk parity approach. This isn't an endorsement or a recommendation by any mean, it is just about being balanced about, well, opposing views. I worded my introductory sentence along those lines, rather cautiously.

I do agree that the next paragraph and the article currently being pointed to are misleading. Which is why I asked to the proponents of such approach to suggest a better article to point to, and then we can craft a sentence or two about it... Help welcome!
LadyGeek wrote:
Mon Dec 02, 2019 10:08 pm
I still disagree with the article's title and think it should be renamed back to "Inverse and leveraged ETFs". With the above changes, the article is a top-level overview that leads into a discussion of how leveraged ETFs work. The fact that long-term results don't match the short-term (daily) results is a basic property of these funds - which happens to be a risk.
It seems to me that the entire article is a consequence of the desire to illustrate risks with LETFs (which is why this page was created in the first place, afaik)... Ok, why don't we do the following? Revert the title to what it was for now, keep working on the content, and when we're happy with the content, let's rethink the title. Fair enough?

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Re: Triple levered index funds

Post by 305pelusa » Tue Dec 03, 2019 12:05 am

HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:34 pm
am wrote:
Sat Nov 30, 2019 12:25 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:49 am
pkcrafter wrote:
Sat Nov 30, 2019 12:20 am
Poster Nisiprius has posted several articles on leveraged funds.

From the Wiki

https://www.bogleheads.org/wiki/Inverse ... raged_ETFs

Paul
The takeaway from the wiki:
These ETFs are for single-day or very-short-term "trading," speculating, gambling only. They are no good for long-term investing.
Check back in 20 years, by then I suspect I will have earned the right to revise this.
I am going to join your adventure with 10-20k. The comments on the wiki make me hesitate. Is the volatility decay taken into consideration with your strategy?
I describe the volatility bonus in full in the original post in my original thread.
There is no bonus. The leveraged ETF should, in theory, match the average returns times a multiple of the benchmark. It will also have a standard deviation of that multiple times the benchmark. The compound return, however, doesn't go up as much because the slippage between mean and compound returns decreases by the square (and not just linearly) of the standard deviation.

I cannot emphasize that enough. The compound return will always be lower than the multiple times the compound return of the underlying. Always. They don't add a "bonus" during trend markets.

That UPRO has returned 5x what VOO has since inception is simply because that's how compounding works over a number of years. 8% is not twice as much as 5%... but over 100 years, the 8% will return "more than 16 times what 5% did!". The whole 5x figure of UPRO is one of the most misleading comments I've seen on the subject.

Look at the CAGR of UPRO vs VOO since inception. You see how it's only around 2.6 times bigger? That's the volatility decay.

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Re: Triple levered index funds

Post by HEDGEFUNDIE » Tue Dec 03, 2019 12:13 am

305pelusa wrote:
Tue Dec 03, 2019 12:05 am
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:34 pm
am wrote:
Sat Nov 30, 2019 12:25 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:49 am
pkcrafter wrote:
Sat Nov 30, 2019 12:20 am
Poster Nisiprius has posted several articles on leveraged funds.

From the Wiki

https://www.bogleheads.org/wiki/Inverse ... raged_ETFs

Paul
The takeaway from the wiki:
These ETFs are for single-day or very-short-term "trading," speculating, gambling only. They are no good for long-term investing.
Check back in 20 years, by then I suspect I will have earned the right to revise this.
I am going to join your adventure with 10-20k. The comments on the wiki make me hesitate. Is the volatility decay taken into consideration with your strategy?
I describe the volatility bonus in full in the original post in my original thread.
There is no bonus. The leveraged ETF should, in theory, match the average returns times a multiple of the benchmark. It will also have a standard deviation of that multiple times the benchmark. The compound return, however, doesn't go up as much because the slippage between mean and compound returns decreases by the square (and not just linearly) of the standard deviation.

I cannot emphasize that enough. The compound return will always be lower than the multiple times the compound return of the underlying. Always. They don't add a "bonus" during trend markets.

That UPRO has returned 5x what VOO has since inception is simply because that's how compounding works over a number of years. 8% is not twice as much as 5%... but over 100 years, the 8% will return "more than 16 times what 5% did!". The whole 5x figure of UPRO is one of the most misleading comments I've seen on the subject.

Look at the CAGR of UPRO vs VOO since inception. You see how it's only around 2.6 times bigger? That's the volatility decay.
Read the wiki article. Nisi is using compounding over completely arbitrary time periods to “disprove” that LETFs actually deliver 2x or 3x the index. My 8x figure for UPRO is apples-to-apples with his “methodology”

I do get your point.
Last edited by HEDGEFUNDIE on Tue Dec 03, 2019 12:40 am, edited 4 times in total.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by HEDGEFUNDIE » Tue Dec 03, 2019 12:23 am

I feel like the wiki article is getting too unwieldy.

It should really just say the following things:

1. What these ETFs are, what they consist of
2. Why they are super risky, namely their potential max drawdown (not volatility decay)
3. Why 3x daily is not 3x over any other time period (volatility decay, i.e. compounding)
3a. Example of how this can hurt you
3b. Example of how this can help you
4. Link to risk parity threads

The warnings all over the page really are unnecessary, they belittle the reader’s intelligence.

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Re: Triple levered index funds

Post by 305pelusa » Tue Dec 03, 2019 12:41 am

HEDGEFUNDIE wrote:
Tue Dec 03, 2019 12:13 am
305pelusa wrote:
Tue Dec 03, 2019 12:05 am
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:34 pm
am wrote:
Sat Nov 30, 2019 12:25 pm
HEDGEFUNDIE wrote:
Sat Nov 30, 2019 12:49 am


The takeaway from the wiki:



Check back in 20 years, by then I suspect I will have earned the right to revise this.
I am going to join your adventure with 10-20k. The comments on the wiki make me hesitate. Is the volatility decay taken into consideration with your strategy?
I describe the volatility bonus in full in the original post in my original thread.
There is no bonus. The leveraged ETF should, in theory, match the average returns times a multiple of the benchmark. It will also have a standard deviation of that multiple times the benchmark. The compound return, however, doesn't go up as much because the slippage between mean and compound returns decreases by the square (and not just linearly) of the standard deviation.

I cannot emphasize that enough. The compound return will always be lower than the multiple times the compound return of the underlying. Always. They don't add a "bonus" during trend markets.

That UPRO has returned 5x what VOO has since inception is simply because that's how compounding works over a number of years. 8% is not twice as much as 5%... but over 100 years, the 8% will return "more than 16 times what 5% did!". The whole 5x figure of UPRO is one of the most misleading comments I've seen on the subject.

Look at the CAGR of UPRO vs VOO since inception. You see how it's only around 2.6 times bigger? That's the volatility decay.
Read the wiki article. Nisi is using compounding over completely arbitrary time periods to “disprove” that LETFs actually deliver 2x or 3x the index. My 8x figure for UPRO is apples-to-apples with his “methodology”

I do get your point.
I agree it's consistent with the methodology shown in the wiki now. Given an arbitrarily long time period, it's possible for a x2 ETF to "return" more than 10x the benchmark using his definitions there. His example does have some merit in that it does show a volatility decay so large that the CAGR was actually LOWER than the benchmark's (as well as borrowing and ER costs). So the example is still good; but not because you compare the ending values; but rather because you should compare the returns (annualized % growth).

But volatility decay is volatility decay. It is the slippage from mean to geometric return. It will always exist, over every time period and it affects unleveraged investments as well. A poster asked you about that decay and your answer seemed to almost imply that it's actually a good thing to have. It's not. And to the extent you can eliminate it via uncorrolated sources of risk that decrease portfolio volatility (ex: TMF), you want to do that.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by 305pelusa » Tue Dec 03, 2019 12:55 am

HEDGEFUNDIE wrote:
Tue Dec 03, 2019 12:23 am
2. Why they are super risky, namely their potential max drawdown (not volatility decay)
We can agree to disagree but, IMO, volatility decay IS a reason why they're risky. These ETFs mimic the average returns times a multiple of something else. So now your returns don't just depend on the underlying benchmark returns (mean and/or compound) but also on the volatility experienced. In other words, given some CAGR of stocks, higher volatility doesn't decrease your VOO returns (since they are fixed by definition) but it does decrease your UPRO returns.

Intuitively, it just means that your returns are now very much path dependent. It's just sequence of returns risk; your returns don't just depend on the long term CAGR but also on the dispersion/distribution/sequence/St/Dev/however-you-want-to-think-of-it. Many of us believe the market will be higher than X in 30 years, which translates to a CAGR of more than Y%. But we have NO idea how it will get there (the St. Dev). So these products represent a risk because now THAT also matters.
Last edited by 305pelusa on Tue Dec 03, 2019 12:58 am, edited 1 time in total.

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Re: Triple levered index funds

Post by HEDGEFUNDIE » Tue Dec 03, 2019 12:57 am

305pelusa wrote:
Tue Dec 03, 2019 12:05 am
Look at the CAGR of UPRO vs VOO since inception. You see how it's only around 2.6 times bigger? That's the volatility decay.
Would you agree that some of the 0.4x slippage is due to borrowing costs and ER, not volatility decay?

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Re: Triple levered index funds

Post by 305pelusa » Tue Dec 03, 2019 1:09 am

HEDGEFUNDIE wrote:
Tue Dec 03, 2019 12:57 am
305pelusa wrote:
Tue Dec 03, 2019 12:05 am
Look at the CAGR of UPRO vs VOO since inception. You see how it's only around 2.6 times bigger? That's the volatility decay.
Would you agree that some of the 0.4x slippage is due to borrowing costs and ER, not volatility decay?
That comment of mine took it into account. The actual returns were 31.6% vs 13.1% (so only 2.4x as large). The ER is 1% and cash returned 0.56% so if you could add those back to UPRO, it would've been 31.6%+1%+2*0.56% = 33.72%. That's 2.57 times bigger (I rounded to 2.6). So the 0.43x slippage is purely decay, with 0.17x coming from borrowing costs and ER (assuming it could borrow at the RFR).

You can also compare their mean returns. UPRO had 2.9 times VOO's mean returns (that slippage is ER and borrowing costs). So the difference between the CAGR slippage (2.4) and the mean slippage (2.9) is the volatility decay. That's 0.5x here so about the same as I get above.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by HEDGEFUNDIE » Tue Dec 03, 2019 1:10 am

305pelusa wrote:
Tue Dec 03, 2019 12:55 am
HEDGEFUNDIE wrote:
Tue Dec 03, 2019 12:23 am
2. Why they are super risky, namely their potential max drawdown (not volatility decay)
We can agree to disagree but, IMO, volatility decay IS a reason why they're risky. These ETFs mimic the average returns times a multiple of something else. So now your returns don't just depend on the underlying benchmark returns (mean and/or compound) but also on the volatility experienced. In other words, given some CAGR of stocks, higher volatility doesn't decrease your VOO returns (since they are fixed by definition) but it does decrease your UPRO returns.

Intuitively, it just means that your returns are now very much path dependent. It's just sequence of returns risk; your returns don't just depend on the long term CAGR but also on the dispersion/distribution/sequence/St/Dev/however-you-want-to-think-of-it. Many of us believe the market will be higher than X in 30 years, which translates to a CAGR of more than Y%. But we have NO idea how it will get there (the St. Dev). So these products represent a risk because now THAT also matters.
Volatility decay cost UPRO 3-4% CAGR. That’s not pretty but it’s also not going to bankrupt you.

The max drawdown is actually why the SEC and others have all these warnings, they just don’t express it clearly.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by 305pelusa » Tue Dec 03, 2019 1:18 am

HEDGEFUNDIE wrote:
Tue Dec 03, 2019 1:10 am
305pelusa wrote:
Tue Dec 03, 2019 12:55 am
HEDGEFUNDIE wrote:
Tue Dec 03, 2019 12:23 am
2. Why they are super risky, namely their potential max drawdown (not volatility decay)
We can agree to disagree but, IMO, volatility decay IS a reason why they're risky. These ETFs mimic the average returns times a multiple of something else. So now your returns don't just depend on the underlying benchmark returns (mean and/or compound) but also on the volatility experienced. In other words, given some CAGR of stocks, higher volatility doesn't decrease your VOO returns (since they are fixed by definition) but it does decrease your UPRO returns.

Intuitively, it just means that your returns are now very much path dependent. It's just sequence of returns risk; your returns don't just depend on the long term CAGR but also on the dispersion/distribution/sequence/St/Dev/however-you-want-to-think-of-it. Many of us believe the market will be higher than X in 30 years, which translates to a CAGR of more than Y%. But we have NO idea how it will get there (the St. Dev). So these products represent a risk because now THAT also matters.
Volatility decay cost UPRO 3-4% CAGR. That’s not pretty but it’s also not going to bankrupt you.

The max drawdown is actually why the SEC and others have all these warnings, they just don’t express it clearly.
It has cost it around 6%. It's just the St Dev. squared, divided by 2.

You and I are just using the word "risk" differently. You're saying risks in the "really bad, Black Swan, bankrupt" way. I use risk in the more generic investment sense: the fact that certain factors now play a potential role in decreasing your returns. BTW, 6% is nothing to sneeze at. Some of us expect stock returns of around 4% for the following few decades. And we need returns at that level to get to retirement. If UPRO is returning 4%*3 - 1% - 2%*2 (borrowing costs) - 6% (decay) = 1%, we literally might not get there. Yeah, it doesn't bankrupt you. But the risk of not actually accumulating enough is perhaps the biggest risk of accumulators. And it's very real here.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by HEDGEFUNDIE » Tue Dec 03, 2019 1:25 am

305pelusa wrote:
Tue Dec 03, 2019 1:18 am
HEDGEFUNDIE wrote:
Tue Dec 03, 2019 1:10 am
305pelusa wrote:
Tue Dec 03, 2019 12:55 am
HEDGEFUNDIE wrote:
Tue Dec 03, 2019 12:23 am
2. Why they are super risky, namely their potential max drawdown (not volatility decay)
We can agree to disagree but, IMO, volatility decay IS a reason why they're risky. These ETFs mimic the average returns times a multiple of something else. So now your returns don't just depend on the underlying benchmark returns (mean and/or compound) but also on the volatility experienced. In other words, given some CAGR of stocks, higher volatility doesn't decrease your VOO returns (since they are fixed by definition) but it does decrease your UPRO returns.

Intuitively, it just means that your returns are now very much path dependent. It's just sequence of returns risk; your returns don't just depend on the long term CAGR but also on the dispersion/distribution/sequence/St/Dev/however-you-want-to-think-of-it. Many of us believe the market will be higher than X in 30 years, which translates to a CAGR of more than Y%. But we have NO idea how it will get there (the St. Dev). So these products represent a risk because now THAT also matters.
Volatility decay cost UPRO 3-4% CAGR. That’s not pretty but it’s also not going to bankrupt you.

The max drawdown is actually why the SEC and others have all these warnings, they just don’t express it clearly.
It has cost it around 6%. It's just the St Dev. squared, divided by 2.

You and I are just using the word "risk" differently. You're saying risks in the "really bad, Black Swan, bankrupt" way. I use risk in the more generic investment sense: the fact that certain factors now play a potential role in decreasing your returns. BTW, 6% is nothing to sneeze at. Some of us expect stock returns of around 4% for the following few decades. And we need returns at that level to get to retirement. If UPRO is returning 4%*3 - 1% - 2%*2 (borrowing costs) - 6% (decay) = 1%, we literally might not get there. Yeah, it doesn't bankrupt you. But the risk of not actually accumulating enough is perhaps the biggest risk of accumulators. And it's very real here.
If stocks return 4% the RFR is not going to be 2%. More like 0.5%. Do the math again and UPRO ends up delivering 4%, same as the index. No harm no foul.

Btw, for any Excellent Adventurers following along, fear not, the volatility decay of the 55/45 strategy is only 1% CAGR (on a base of 36% CAGR):

https://www.portfoliovisualizer.com/bac ... on5_2=-200

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by HEDGEFUNDIE » Tue Dec 03, 2019 1:29 am

305pelusa wrote:
Tue Dec 03, 2019 1:18 am
It has cost it around 6%. It's just the St Dev. squared, divided by 2.
I have it closer to 2%:

https://www.portfoliovisualizer.com/bac ... on3_2=-200

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by 305pelusa » Tue Dec 03, 2019 1:48 am

HEDGEFUNDIE wrote:
Tue Dec 03, 2019 1:25 am
If stocks return 4% the RFR is not going to be 2%. More like 0.5%. Do the math again and UPRO ends up delivering 4%, same as the index. No harm no foul.
1) Didn't realize you could forecast the ERP. Around 4% of rolling 20 year periods in US history had an ERP that was actually negative as per Swedroe's book. Obviously, if the barrier is that the ERP was greater than 2% (not just positive), then far more rolling 20 year periods (and perhaps even some 30 year periods) have already occurred in history where the ERP didn't get there. IMO, it's by no means a certainty that the ERP will be greater than 2% (or the 3.5% you imply) in the upcoming decades.
2) UPRO borrows at higher than the RFR. It seemed to be 2.87% at a time when cash was yielding around 2.4%. So whatever ERP you think there will be, maybe take out another 0.4-0.5% because UPRO might not borrow at the RFR.

So on average, I don't think it will underperform VOO. But we're talking about risk (the bad outcomes), not the average outcome. I absolutely believe there is a very real risk that the volatility decay, combined with a small ERP and the ER, combine to create a significant decrease in returns for long term investors that depended on it. It sounds like you don't think that's a reasonable risk. Fine. Either way, I don't modify the wiki. And it looks like you don't either. Perhaps we can let Nisi, Lady and Siamond decide. We've both given arguments so they can decide from here.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by 305pelusa » Tue Dec 03, 2019 1:54 am

HEDGEFUNDIE wrote:
Tue Dec 03, 2019 1:29 am
305pelusa wrote:
Tue Dec 03, 2019 1:18 am
It has cost it around 6%. It's just the St Dev. squared, divided by 2.
I have it closer to 2%:

https://www.portfoliovisualizer.com/bac ... on3_2=-200
Once more. Volatility decay is the slippage between mean returns and compound returns, due to volatility. It is aka variance drag or volatility drag. It affects all securities except cash. It affects VOO too (it's only around 0.6%). Obviously much smaller than UPRO because, like I said, this decay grows at the square of the St Dev, not linearly.
https://www.kitces.com/blog/volatility- ... t-returns/

What you show there is the difference between a leveraged investment strategy that reconstitutes daily, and an investment strategy that reconstitutes yearly. It has nothing to do with what I'm talking to you about.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by HEDGEFUNDIE » Tue Dec 03, 2019 9:35 am

305pelusa wrote:
Tue Dec 03, 2019 1:48 am
HEDGEFUNDIE wrote:
Tue Dec 03, 2019 1:25 am
If stocks return 4% the RFR is not going to be 2%. More like 0.5%. Do the math again and UPRO ends up delivering 4%, same as the index. No harm no foul.
1) Didn't realize you could forecast the ERP. Around 4% of rolling 20 year periods in US history had an ERP that was actually negative as per Swedroe's book. Obviously, if the barrier is that the ERP was greater than 2% (not just positive), then far more rolling 20 year periods (and perhaps even some 30 year periods) have already occurred in history where the ERP didn't get there. IMO, it's by no means a certainty that the ERP will be greater than 2% (or the 3.5% you imply) in the upcoming decades.
2) UPRO borrows at higher than the RFR. It seemed to be 2.87% at a time when cash was yielding around 2.4%. So whatever ERP you think there will be, maybe take out another 0.4-0.5% because UPRO might not borrow at the RFR.

So on average, I don't think it will underperform VOO. But we're talking about risk (the bad outcomes), not the average outcome. I absolutely believe there is a very real risk that the volatility decay, combined with a small ERP and the ER, combine to create a significant decrease in returns for long term investors that depended on it. It sounds like you don't think that's a reasonable risk. Fine. Either way, I don't modify the wiki. And it looks like you don't either. Perhaps we can let Nisi, Lady and Siamond decide. We've both given arguments so they can decide from here.
I don’t forecast ERP but I can look up Damodaran as well as anyone, and he has the average ERP over the past 60 years at 4.2%.

Of course it can fall significantly below this, but that would be a temporary tail event. It is unreasonable to claim that a significantly below average ERP could persist for decades on end.

When we talk about risks, we should examine both how likely something is to occur, as well as how long it could take to recover from.

Look at the simulated UPRO vs S&P chart going back to 1955 in my Excellent Adventure original post. Is it really a grinding decay into oblivion that kills UPRO? Of course not, it’s the massive drawdowns that accompany S&P crashes, which take a decade or more to recover from. These also are tail events, but they are also certain to happen, and when they do, a 90%+ destruction in value almost guarantees a decade-plus recovery.

Think about it this way, if volatility decay really was a meaningful long term risk (defined as underperforming the S&P 500), UPRO would actually never recover from one of its max drawdowns. The volatility decay would not allow UPRO to ever “catch up” with the index post-crash.

Any yet we don’t see evidence of that in the data.

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Re: [Wiki article update - Inverse and leveraged ETFs]

Post by 305pelusa » Tue Dec 03, 2019 10:13 am

HEDGEFUNDIE wrote:
Tue Dec 03, 2019 9:35 am
305pelusa wrote:
Tue Dec 03, 2019 1:48 am
HEDGEFUNDIE wrote:
Tue Dec 03, 2019 1:25 am
If stocks return 4% the RFR is not going to be 2%. More like 0.5%. Do the math again and UPRO ends up delivering 4%, same as the index. No harm no foul.
1) Didn't realize you could forecast the ERP. Around 4% of rolling 20 year periods in US history had an ERP that was actually negative as per Swedroe's book. Obviously, if the barrier is that the ERP was greater than 2% (not just positive), then far more rolling 20 year periods (and perhaps even some 30 year periods) have already occurred in history where the ERP didn't get there. IMO, it's by no means a certainty that the ERP will be greater than 2% (or the 3.5% you imply) in the upcoming decades.
2) UPRO borrows at higher than the RFR. It seemed to be 2.87% at a time when cash was yielding around 2.4%. So whatever ERP you think there will be, maybe take out another 0.4-0.5% because UPRO might not borrow at the RFR.

So on average, I don't think it will underperform VOO. But we're talking about risk (the bad outcomes), not the average outcome. I absolutely believe there is a very real risk that the volatility decay, combined with a small ERP and the ER, combine to create a significant decrease in returns for long term investors that depended on it. It sounds like you don't think that's a reasonable risk. Fine. Either way, I don't modify the wiki. And it looks like you don't either. Perhaps we can let Nisi, Lady and Siamond decide. We've both given arguments so they can decide from here.
I don’t forecast ERP but I can look up Damodaran as well as anyone, and he has the average ERP over the past 60 years at 4.2%.

Of course it can fall significantly below this, but that would be a tail event. It is unreasonable to claim that a significantly below average ERP could persist for decades on end.

When we talk about risks, we should examine both how likely something is to occur, as well as how long it could take to recover from.

Look at the simulated UPRO vs S&P chart going back to 1955 in my Excellent Adventure original post. Is it really a grinding decay into oblivion that kills UPRO? Of course not, it’s the massive drawdowns that accompany S&P crashes, which take a decade or more to recover from. These also are tail events, but they are also certain to happen, and when they do, a 90%+ destruction in value almost guarantees a decade-plus recovery.
A "risk" obviously entails a left tail possibility. It's nonsense that if stocks yield 4%, then cash WILL yield 0.5%. On average, perhaps. But the nature of risk is that you might not get near that average.

I do agree the effect and likelihood both matter. That's why my point 1 above gives some intuition as to its likelihood and magnitude. I think it's reasonably likely, with a possibility of UPRO severely underperforming even VOO itself in the 10s of % perhaps. So you take 3 times the drawdown and volatility risks, for worse performance. How that's not a risk in your mind is beyond me.

As for the past data, I agree large drawdowns are also a risk. And they might be a bigger risk, sure why not. But the fact that you don't recognize how strategies with very high St Dev lead to serious loss in returns is troublesome. Even more troublesome that, based on your previous post from PV, I'm not even sure it's something you understood at all. Twice now you've underestimated it in your posts.
HEDGEFUNDIE wrote:
Tue Dec 03, 2019 9:35 am

Think about it this way, if volatility decay really was a meaningful long term risk (defined as underperforming the S&P 500), UPRO would actually never recover from one of its max drawdowns. The volatility decay would not allow UPRO to ever “catch up” with the index post-crash.

Any yet we don’t see evidence of that in the data.
Huh? Now you're talking about large drawdowns and high decay coming at the same time. I never claimed they had to come hand in hand (this is what you imply above). So far in US history, after every large drawdown, we've had a strong recovery (high ERP) so both risks haven't materialized successively thus far.

However, they each can occur and HAVE OCCURRED by themselves. So your point that there is no relevant volatility decay because it never has occurred after a drawdown is just moot. And in Japan, they actually did occur together. I would be interested to see a 3x daily Nikkei data since before the crash to see just how brutal it could be for both risks to come together.

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Re: Triple levered index funds

Post by siamond » Tue Dec 03, 2019 10:28 am

HEDGEFUNDIE wrote:
Tue Dec 03, 2019 12:13 am
Read the wiki article. Nisi is using compounding over completely arbitrary time periods to “disprove” that LETFs actually deliver 2x or 3x the index. My 8x figure for UPRO is apples-to-apples with his “methodology”
It just takes one counter-example to disprove a theory (more precisely in this case, a perception). Nisi's examples may be cherry-picked and a little extreme, but they happened in recent history (hence hard facts), and they clearly illustrate -by example- to a naive reader that LETFs do NOT behave as an index times 2 or 3.

This is the entire point, countering this intuitive perception of naive readers WITHOUT using any mathematical formula or complex explanation. As the saying goes, one math formula and you lose half of the readers. I am math-inclined and I like to understand (and explain) what's under cover, I think you are the same, and it IS frustrating, but fact is we have to tune such wiki articles to first-time readers, as Ladygeek keeps emphasizing. I think those sections are fine. We do need to add material about up & down volatility and drawdowns though, that I do agree. And refine the 'opposing view' section, as I keep asking for.

And now for some snow shoveling, oh joy...

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Re: Triple levered index funds

Post by HEDGEFUNDIE » Tue Dec 03, 2019 10:55 am

siamond wrote:
Tue Dec 03, 2019 10:28 am
HEDGEFUNDIE wrote:
Tue Dec 03, 2019 12:13 am
Read the wiki article. Nisi is using compounding over completely arbitrary time periods to “disprove” that LETFs actually deliver 2x or 3x the index. My 8x figure for UPRO is apples-to-apples with his “methodology”
It just takes one counter-example to disprove a theory (more precisely in this case, a perception). Nisi's examples may be cherry-picked and a little extreme, but they happened in recent history (hence hard facts), and they clearly illustrate -by example- to a naive reader that LETFs do NOT behave as an index times 2 or 3.
But why only show the negative examples, why not show the positive examples as well?

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