Leveraging with options vs margin
Leveraging with options vs margin
I am slowly convincing myself that my long term strategy might end up to be using leverage in a portfolio containing a relatively low risk ETF.
In case I'll go for that road, then the question becomes what's the best way to do it.
It seems to me that there are mainly two possibilities:
1) open a margin account, maybe looking for the one that charges lowest fees. It seems that Interactive broker is the most popular choice.
2) Use options. If we take for example VTI, right now it is at 215.
The call option with strike price at 195, expiring January 2023, would cost a premium around 35. This means that with 3.5 % at stakes (the premium) I control roughly 20% of the portfolio. Therefore, I could do something like
VTI 80 %
call option 3.5 %
world bond ETF 16.5 %
I still have time to think this through, since I don't plan to do it in the close future, but meanwhile, I wanted to know whether this makes sense and what are your thoughts.
In case I'll go for that road, then the question becomes what's the best way to do it.
It seems to me that there are mainly two possibilities:
1) open a margin account, maybe looking for the one that charges lowest fees. It seems that Interactive broker is the most popular choice.
2) Use options. If we take for example VTI, right now it is at 215.
The call option with strike price at 195, expiring January 2023, would cost a premium around 35. This means that with 3.5 % at stakes (the premium) I control roughly 20% of the portfolio. Therefore, I could do something like
VTI 80 %
call option 3.5 %
world bond ETF 16.5 %
I still have time to think this through, since I don't plan to do it in the close future, but meanwhile, I wanted to know whether this makes sense and what are your thoughts.
Re: Leveraging with options vs margin
Why are you "convincing myself that my long term strategy might end up to be using leverage in a portfolio containing a relatively low risk ETF"?
Re: Leveraging with options vs margin
Have you looked at Steve's thread?
https://www.bogleheads.org/forum/viewt ... st=5985279
https://www.bogleheads.org/forum/viewt ... st=5985279
Re: Leveraging with options vs margin
Why not just buy a higher risk ETF?
It might help to understand what type of ETF you're talking about. When you say "low risk ETF", I'm picturing a bond ETF like BIV. Rather than by it on leverage, it seems more sensible to switch to a total stock market ETF.
It might help to understand what type of ETF you're talking about. When you say "low risk ETF", I'm picturing a bond ETF like BIV. Rather than by it on leverage, it seems more sensible to switch to a total stock market ETF.
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Re: Leveraging with options vs margin
I don't recommend leverage but if you must, just use LETFs like SSO, UPRO etc etc. Much easier to manage than options or margin.
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Re: Leveraging with options vs margin
Why not both?
Re: Leveraging with options vs margin
Thank you this is very helpful.mr_mac3 wrote: ↑Tue May 04, 2021 5:59 pm Have you looked at Steve's thread?
https://www.bogleheads.org/forum/viewt ... st=5985279
You are right, "low risk ETF" was unclear. I intend to leverage a total stock market ETF, or even a world stock market ETF like VT. Ideally, VT would be best. Forget the "low risk" part.MarkBarb wrote: ↑Tue May 04, 2021 6:00 pm Why not just buy a higher risk ETF?
It might help to understand what type of ETF you're talking about. When you say "low risk ETF", I'm picturing a bond ETF like BIV. Rather than by it on leverage, it seems more sensible to switch to a total stock market ETF.
Re: Leveraging with options vs margin
That lifecycle investing thread you've been linked goes in depth on optimizing borrowing costs.
LETFs, despite having higher borrowing costs, may be more advantageous for tax reasons depending on your situation, so don't write them off immediately.
LETFs, despite having higher borrowing costs, may be more advantageous for tax reasons depending on your situation, so don't write them off immediately.
Re: Leveraging with options vs margin
Liquidity of options chain is pretty important. If you're going the options route, it's probably better to use SPY. Also consider the tax implications of options, which must be rolled every few years vs. buying and holding a leveraged ETF.
Re: Leveraging with options vs margin
Yes. Buying deep in the money calls is a way to leverage.
Drawbacks:
Profits are always taxed at short-term rates.
Missing out on dividends, if paid.
Time value is never really zero. Spread is generally higher for options, compared to liquid stocks. Even more true for DITM strikes.
Advantages (compared to a standard long position):
Gamma convexity: If the underlying moves against you, you lose money more slowly than with a long position. If the underlying moves in your favor, you are already at a point where Delta ≈1 and will replicate the long position.
Liquidity for DITM calls not really an issue [edit: in reference to the post above, I mean nearing expiration]. At worst you will exercise, which means somewhat higher transaction costs. Close to expiration there will always be someone short on the same option who will want to avoid being assigned for the very same reason, so you should be able to close the position at the intrinsic value.
Drawbacks:
Profits are always taxed at short-term rates.
Missing out on dividends, if paid.
Time value is never really zero. Spread is generally higher for options, compared to liquid stocks. Even more true for DITM strikes.
Advantages (compared to a standard long position):
Gamma convexity: If the underlying moves against you, you lose money more slowly than with a long position. If the underlying moves in your favor, you are already at a point where Delta ≈1 and will replicate the long position.
Liquidity for DITM calls not really an issue [edit: in reference to the post above, I mean nearing expiration]. At worst you will exercise, which means somewhat higher transaction costs. Close to expiration there will always be someone short on the same option who will want to avoid being assigned for the very same reason, so you should be able to close the position at the intrinsic value.
Re: Leveraging with options vs margin
I would also guide you towards leveraged ETFs if you are intent on leveraging your portfolio. There is volatility drag, but they will probably be more efficient than call options, for which you would be paying for mostly unneeded convexity, and will be more practical than margin or futures, since you won't have to contend with operational trading and will also have automatic stop-losses from the ETF's rebalancing.
Re: Leveraging with options vs margin
I highly recommend reading one of the books by Ralph Vince. The math is a bit complicated, but he draws some convincing conclusions about leverage.
https://www.amazon.com/s?k=ralph+vince& ... _sb_noss_1
Of the three possibilities: margin, options and leveraged ETF's, I like leveraged ETF's.
Margin: you pay margin interest and your account can go negative. You could get a margin call and owe your broker money.
Long options: time decay/expiration. Your timing has to be just right. Too much of a crap shoot.
Leveraged ETF's: no time decay, no margin interest, account cannot go negative. There is a possibility your fund could go to zero (but no less). A 50% one-day drop would wipe out a 2x ETF. A 33.33% one-day drop would take a 3x ETF to zero. Historically this has never happened, not in 1929 and not in 1987. Subsequent to the 1987 crash they implemented "circuit breakers" at the exchanges.
I have done some testing of leveraged ETF's based on Ralph Vince's works. I would go with no more than a 2x ETF. My testing shows that a 3x would perform suboptimally in a bear market.
I am not in the lockstep boglehead devotion to S&P 500 funds. My LETF of choice is QLD, based on the NASDAQ 100. After today's drop I plan to pick up some more shares at a lower price tomorrow.
There is a lot of claptrap on the Internet about leveraged ETF's. There is even a video where a guy equates them to crack cocaine (yeah, whatever, dude), and a lot of mathematical double talk about volatility decay. All you have to do is pull up a chart since inception of any stock LETF. Yes, the drawdowns are steep but the fund recovers from them.
https://www.amazon.com/s?k=ralph+vince& ... _sb_noss_1
Of the three possibilities: margin, options and leveraged ETF's, I like leveraged ETF's.
Margin: you pay margin interest and your account can go negative. You could get a margin call and owe your broker money.
Long options: time decay/expiration. Your timing has to be just right. Too much of a crap shoot.
Leveraged ETF's: no time decay, no margin interest, account cannot go negative. There is a possibility your fund could go to zero (but no less). A 50% one-day drop would wipe out a 2x ETF. A 33.33% one-day drop would take a 3x ETF to zero. Historically this has never happened, not in 1929 and not in 1987. Subsequent to the 1987 crash they implemented "circuit breakers" at the exchanges.
I have done some testing of leveraged ETF's based on Ralph Vince's works. I would go with no more than a 2x ETF. My testing shows that a 3x would perform suboptimally in a bear market.
I am not in the lockstep boglehead devotion to S&P 500 funds. My LETF of choice is QLD, based on the NASDAQ 100. After today's drop I plan to pick up some more shares at a lower price tomorrow.
There is a lot of claptrap on the Internet about leveraged ETF's. There is even a video where a guy equates them to crack cocaine (yeah, whatever, dude), and a lot of mathematical double talk about volatility decay. All you have to do is pull up a chart since inception of any stock LETF. Yes, the drawdowns are steep but the fund recovers from them.
Financial decisions based on emotion often turn out to be bad decisions.
Re: Leveraging with options vs margin
THIS ^^^consider the tax implications of options, which must be rolled every few years vs. buying and holding a leveraged ETF.
LETF's lend themselves well to buy and hold.
Financial decisions based on emotion often turn out to be bad decisions.
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Re: Leveraging with options vs margin
The problem is we don't have that much LETF data. I've done some SPX sim, going all the way back to 1929 or so. LETF "recovered" in 1981 or somewhere around there. If a retiree was unlucky in 1929, it would have been game over for them.chris319 wrote: ↑Tue May 04, 2021 7:03 pm I highly recommend reading one of the books by Ralph Vince. The math is a bit complicated, but he draws some convincing conclusions about leverage.
There is a lot of claptrap on the Internet about leveraged ETF's. There is even a video where a guy equates them to crack cocaine (yeah, whatever, dude), and a lot of mathematical double talk about volatility decay. All you have to do is pull up a chart since inception of any stock LETF. Yes, the drawdowns are steep but the fund recovers from them.
Re: Leveraging with options vs margin
What leverage factor did your simulation use?Marseille07 wrote: ↑Tue May 04, 2021 7:12 pmThe problem is we don't have that much LETF data. I've done some SPX sim, going all the way back to 1929 or so. LETF "recovered" in 1981 or somewhere around there. If a retiree was unlucky in 1929, it would have been game over for them.chris319 wrote: ↑Tue May 04, 2021 7:03 pm I highly recommend reading one of the books by Ralph Vince. The math is a bit complicated, but he draws some convincing conclusions about leverage.
There is a lot of claptrap on the Internet about leveraged ETF's. There is even a video where a guy equates them to crack cocaine (yeah, whatever, dude), and a lot of mathematical double talk about volatility decay. All you have to do is pull up a chart since inception of any stock LETF. Yes, the drawdowns are steep but the fund recovers from them.
Not "game over" because the fund wouldn't have gone to 0. Their holdings would have been seriously diminished, but so were a lot of people's who owned stocks. In those days you could buy stocks for 10 cents on the dollar; many were just overleveraged and had to pay off all that margin debt.
The SPX as we know it today came into existence in 1957.
Financial decisions based on emotion often turn out to be bad decisions.
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Re: Leveraging with options vs margin
It was 3x. I was just using whatever Yahoo Finance gave me for ^GSPC. They might be stitching S&P30 before 1957.chris319 wrote: ↑Tue May 04, 2021 7:25 pmWhat leverage factor did your simulation use?Marseille07 wrote: ↑Tue May 04, 2021 7:12 pmThe problem is we don't have that much LETF data. I've done some SPX sim, going all the way back to 1929 or so. LETF "recovered" in 1981 or somewhere around there. If a retiree was unlucky in 1929, it would have been game over for them.chris319 wrote: ↑Tue May 04, 2021 7:03 pm I highly recommend reading one of the books by Ralph Vince. The math is a bit complicated, but he draws some convincing conclusions about leverage.
There is a lot of claptrap on the Internet about leveraged ETF's. There is even a video where a guy equates them to crack cocaine (yeah, whatever, dude), and a lot of mathematical double talk about volatility decay. All you have to do is pull up a chart since inception of any stock LETF. Yes, the drawdowns are steep but the fund recovers from them.
Not "game over" because the fund wouldn't have gone to 0. Their holdings would have been seriously diminished, but so were a lot of people's who owned stocks. In those days you could buy stocks for 10 cents on the dollar; many were just overleveraged and had to pay off all that margin debt.
The SPX as we know it today came into existence in 1957.
It's "game over" because we're talking about a retiree who can't just ride it out 50 years for recovery. For an accumulator, this is not a concern.
Re: Leveraging with options vs margin
What do you get if you use 2x?It was 3x.
They didn't have "circuit breakers" until 1988, after the crash.
There is QLD data going back before 2008.
I started out with TQQQ but sold half and replaced it with QLD based on my own research, so my effective leverage is now 2.5x. There will be no new purchases of TQQQ.
Financial decisions based on emotion often turn out to be bad decisions.
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Re: Leveraging with options vs margin
I didn't do 2x, but given 1x didn't recover until 1954, and 3x until 1981, 2x would likely be somewhere in the middle. Feel free to do your own study, this is fairly straightforward on Excel. I basically replicated daily % changes on 1x to 3x.chris319 wrote: ↑Tue May 04, 2021 7:47 pmWhat do you get if you use 2x?It was 3x.
They didn't have "circuit breakers" until 1988, after the crash.
There is QLD data going back before 2008.
I started out with TQQQ but sold half and replaced it with QLD based on my own research, so my effective leverage is now 2.5x. There will be no new purchases of TQQQ.
Re: Leveraging with options vs margin
Nowadays, in addition to circuit breakers, you need to put up at least 50% of a margin purchase, not 10% like in 1929.
Financial decisions based on emotion often turn out to be bad decisions.
Re: Leveraging with options vs margin
I'm not sure if circuit breakers necessarily provide protection to a leveraged ETF under a severe price shock. Let's say SPX would have dropped 20% today, but is stopped by the circuit breaker. What would a 3x leverage ETF like UPRO do under this scenario? Either they would still sell the equivalent of down 20%, through futures or other instruments, or they would roll to the next day and sell then, assuming prices don't recover. This is the sort of product where it would be important to check the prospectus for actions under market disruption.
Re: Leveraging with options vs margin
My results are much different.
^GSPC daily data from 12/30/1927 to 4/7/2021
Starting value: $10,000
1x final value: $2,228,214
2x final value: $17,003,711
3x final value: $3,801,598
3x is too much leverage.
^GSPC daily data from 12/30/1927 to 4/7/2021
Starting value: $10,000
1x final value: $2,228,214
2x final value: $17,003,711
3x final value: $3,801,598
3x is too much leverage.
Financial decisions based on emotion often turn out to be bad decisions.
Re: Leveraging with options vs margin
According to the prospectus a 3x fund would be down approximately 60%.Let's say SPX would have dropped 20% today, but is stopped by the circuit breaker. What would a 3x leverage ETF like UPRO do under this scenario?
Financial decisions based on emotion often turn out to be bad decisions.
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Re: Leveraging with options vs margin
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Re: Leveraging with options vs margin
Different in what sense? I was merely saying 3x didn't recover from 1929 to 1981 or somewhere around there. Obviously it's been about 40 years since then, so 2x and 3x coming ahead of 1x makes sense.
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Re: Leveraging with options vs margin
Without a doubt box spread financing is the best form of leverage in my opinion. Only catch is you need portfolio margin. If what you want to leverage has futures, and you're considering this in an IRA, futures are the next best but i think treasury futures in a risk parity sense are fine in taxable. Synthetic longs, buy call/sell put, are probably next in line, followed by deep ITM LEAPS. Beyond that I'd go margin at IB and bringing up the rear would be LETFS.
That's my opinion based on experience using all of them.
That's my opinion based on experience using all of them.
Re: Leveraging with options vs margin
Eww, no, not for buy and hold.hi_there wrote: ↑Tue May 04, 2021 6:49 pm I would also guide you towards leveraged ETFs if you are intent on leveraging your portfolio. There is volatility drag, but they will probably be more efficient than call options, for which you would be paying for mostly unneeded convexity, and will be more practical than margin or futures, since you won't have to contend with operational trading and will also have automatic stop-losses from the ETF's rebalancing.
Volatility drag is a killer over time.
Even the leveraged ETF vendors (ProShares, Direxxion, etc) say they're not for buy and hold.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
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Re: Leveraging with options vs margin
It's not "a killer." These people are looking to outperform 1x, and numerous sims show 2x and 3x deliver that, even with volatility drag.
Those issuers say they're not buy and hold on a CYA basis.
The real "killer" is crazy drawdowns. I suspect lots of posters here don't fully understand them, or underestimate them.
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Re: Leveraging with options vs margin
I was deciding between margin and LETF.
For the reasons below I chose margin.
One is not inherently good or bad. Each has its place. Each investor has a different set of beliefs and goals.
1) For LETF, I am surprised that some people assume these are suitable for a long-term buy and hold strategy. What I mean by that is, according to a paper I read recently, they give more volatility and chances of a drawdown with a lower compensated return. I know that sentence made all you math whizzes cringe but that is how I conceptualize it. I read that a 2x fund returned around 1.4x in one study but had >2x volatility. Margin allows me to hold long-term and match risk and reward. I speak in generalities and gross oversimplifications.
2) Also, for a LETF I am paying a premium to reset the leverage to 2x (or 3x). There is a cost to do this daily. When I think about it I do not really care if my leverage is 1.9 or 2.1. And therefore, I do *not* need to pay an extra cost to keep it exactly at 2x (or 3x). Margin allows it to float a bit and that is ok in my personal situation. I get that the ER on LETF is lower than the best of margin rates at IB. However, per my research, it is not comparing apples to apples thus it is not correct to simply compare the ER of LEFT with the margin rate. And again, even if the rates were the same see #1 above for risk v return.
3) A margin account allows me to buy true and tested ETFs. I can easily get diversification with these household funds. With LETF, there are some funds I like (ie international, emerging markets) but they are much smaller. And, without evidence but my feeling is that there might be a larger tracking error with these kinds of LTEF. Of note, I am not talking about UPRO. Again, I'm looking at smaller international funds and emerging markets. Therefore, margin allows me more diversification.
4) And finally, thanks to Lifecycle Investing, I better understand the risk of a margin call in the setting of adding more funds from my paycheck every 2 weeks. I could see LTEF work brilliantly and 'good enough' given the lower ER if someone has a lump sum and never adds monies. I, however, plan to add money throughout time. I acknowledge if the margin account gets too large then this will dwarf whatever I can add from my paycheck. In that instance, a host of LTEFs may make sense. Or deleveraging may occur (ie from 2x to 1.3x).
5) For margin vs options (the OP question) I thought options introduced a 'callable' event which is the date it expires. For me, that introduces another factor to take into consideration and another event that I have to get right. Put plainly, not only do I have to be right on the direction BUT I also have to be right on WHEN it happens. If each event was a 50/50 occurrence then suddenly my chances of success goes from 50% to 25% for the general strategy. With margin, it doesn't matter if I'm wrong one day after I think something will happen. In that sense, provided I can add more money and avoid margin call the margin loan becomes 'non-callable'. I put it in quotes because I know any firm can change the margin rate and terms at any darn time they please thus not making it non-callable.
6) Someone will say futures for the lowest rates. To my understanding, it is difficult to create an international and emerging market index easily. Of course the SP500 emini exists. If other large indexes that are traded routinely does exist someone please provide a link for me to check out and I'd love to learn
I am open to hearing dissenting thoughts. All I ask if we do not place too much importance on backtesting. I am against historicist bias. I mean absolutely no hate towards those that implement HFEA, either. I respect the vigorous and honest dialogue of the BH community.
For the reasons below I chose margin.
One is not inherently good or bad. Each has its place. Each investor has a different set of beliefs and goals.
1) For LETF, I am surprised that some people assume these are suitable for a long-term buy and hold strategy. What I mean by that is, according to a paper I read recently, they give more volatility and chances of a drawdown with a lower compensated return. I know that sentence made all you math whizzes cringe but that is how I conceptualize it. I read that a 2x fund returned around 1.4x in one study but had >2x volatility. Margin allows me to hold long-term and match risk and reward. I speak in generalities and gross oversimplifications.
2) Also, for a LETF I am paying a premium to reset the leverage to 2x (or 3x). There is a cost to do this daily. When I think about it I do not really care if my leverage is 1.9 or 2.1. And therefore, I do *not* need to pay an extra cost to keep it exactly at 2x (or 3x). Margin allows it to float a bit and that is ok in my personal situation. I get that the ER on LETF is lower than the best of margin rates at IB. However, per my research, it is not comparing apples to apples thus it is not correct to simply compare the ER of LEFT with the margin rate. And again, even if the rates were the same see #1 above for risk v return.
3) A margin account allows me to buy true and tested ETFs. I can easily get diversification with these household funds. With LETF, there are some funds I like (ie international, emerging markets) but they are much smaller. And, without evidence but my feeling is that there might be a larger tracking error with these kinds of LTEF. Of note, I am not talking about UPRO. Again, I'm looking at smaller international funds and emerging markets. Therefore, margin allows me more diversification.
4) And finally, thanks to Lifecycle Investing, I better understand the risk of a margin call in the setting of adding more funds from my paycheck every 2 weeks. I could see LTEF work brilliantly and 'good enough' given the lower ER if someone has a lump sum and never adds monies. I, however, plan to add money throughout time. I acknowledge if the margin account gets too large then this will dwarf whatever I can add from my paycheck. In that instance, a host of LTEFs may make sense. Or deleveraging may occur (ie from 2x to 1.3x).
5) For margin vs options (the OP question) I thought options introduced a 'callable' event which is the date it expires. For me, that introduces another factor to take into consideration and another event that I have to get right. Put plainly, not only do I have to be right on the direction BUT I also have to be right on WHEN it happens. If each event was a 50/50 occurrence then suddenly my chances of success goes from 50% to 25% for the general strategy. With margin, it doesn't matter if I'm wrong one day after I think something will happen. In that sense, provided I can add more money and avoid margin call the margin loan becomes 'non-callable'. I put it in quotes because I know any firm can change the margin rate and terms at any darn time they please thus not making it non-callable.
6) Someone will say futures for the lowest rates. To my understanding, it is difficult to create an international and emerging market index easily. Of course the SP500 emini exists. If other large indexes that are traded routinely does exist someone please provide a link for me to check out and I'd love to learn
I am open to hearing dissenting thoughts. All I ask if we do not place too much importance on backtesting. I am against historicist bias. I mean absolutely no hate towards those that implement HFEA, either. I respect the vigorous and honest dialogue of the BH community.
No use in being clever - have to be the cleverest
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Re: Leveraging with options vs margin
I'd like to learn more about the statement bolded. May I please ask why you'd put deep ITM LEAPS first and then place margin before LTEFs? Thxcorp_sharecropper wrote: ↑Tue May 04, 2021 9:43 pm Without a doubt box spread financing is the best form of leverage in my opinion. Only catch is you need portfolio margin. If what you want to leverage has futures, and you're considering this in an IRA, futures are the next best but i think treasury futures in a risk parity sense are fine in taxable. Synthetic longs, buy call/sell put, are probably next in line, followed by deep ITM LEAPS. Beyond that I'd go margin at IB and bringing up the rear would be LETFS.
That's my opinion based on experience using all of them.
No use in being clever - have to be the cleverest
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Re: Leveraging with options vs margin
1) UPRO returned 44x since July 2009, SPY returned 5.7x. Rebalancing daily does create volatility drag in sideways markets, but it also dramatically compounds returns in upwards markets (UPRO didn't just return 3x SPY, it returned nearly 10x). Theoretically, I think the net effect should be zero or else an arbitrage opportunity would exist (short UPRO and own SPY leveraged 3x on margin with less rebalancing would be a risk-free arbitrage opportunity - but it doesn't work, you'd beat UPRO in sideways markets but UPRO would thrash you in upwards markets). If you think about it, the frequency of rebalancing shouldn't matter. However, it is an added risk over shorter time-periods. The financing and transaction costs are the real drag on UPRO and one can do a bit better with box spreads and/or futures.TheCleverest wrote: ↑Tue May 04, 2021 10:21 pm I was deciding between margin and LETF.
For the reasons below I chose margin.
One is not inherently good or bad. Each has its place. Each investor has a different set of beliefs and goals.
1) For LETF, I am surprised that some people assume these are suitable for a long-term buy and hold strategy. What I mean by that is, according to a paper I read recently, they give more volatility and chances of a drawdown with a lower compensated return. I know that sentence made all you math whizzes cringe but that is how I conceptualize it. I read that a 2x fund returned around 1.4x in one study but had >2x volatility. Margin allows me to hold long-term and match risk and reward. I speak in generalities and gross oversimplifications.
2) Also, for a LETF I am paying a premium to reset the leverage to 2x (or 3x). There is a cost to do this daily. When I think about it I do not really care if my leverage is 1.9 or 2.1. And therefore, I do *not* need to pay an extra cost to keep it exactly at 2x (or 3x). Margin allows it to float a bit and that is ok in my personal situation. I get that the ER on LETF is lower than the best of margin rates at IB. However, per my research, it is not comparing apples to apples thus it is not correct to simply compare the ER of LEFT with the margin rate. And again, even if the rates were the same see #1 above for risk v return.
3) A margin account allows me to buy true and tested ETFs. I can easily get diversification with these household funds. With LETF, there are some funds I like (ie international, emerging markets) but they are much smaller. And, without evidence but my feeling is that there might be a larger tracking error with these kinds of LTEF. Of note, I am not talking about UPRO. Again, I'm looking at smaller international funds and emerging markets. Therefore, margin allows me more diversification.
4) And finally, thanks to Lifecycle Investing, I better understand the risk of a margin call in the setting of adding more funds from my paycheck every 2 weeks. I could see LTEF work brilliantly and 'good enough' given the lower ER if someone has a lump sum and never adds monies. I, however, plan to add money throughout time. I acknowledge if the margin account gets too large then this will dwarf whatever I can add from my paycheck. In that instance, a host of LTEFs may make sense. Or deleveraging may occur (ie from 2x to 1.3x).
5) For margin vs options (the OP question) I thought options introduced a 'callable' event which is the date it expires. For me, that introduces another factor to take into consideration and another event that I have to get right. Put plainly, not only do I have to be right on the direction BUT I also have to be right on WHEN it happens. If each event was a 50/50 occurrence then suddenly my chances of success goes from 50% to 25% for the general strategy. With margin, it doesn't matter if I'm wrong one day after I think something will happen. In that sense, provided I can add more money and avoid margin call the margin loan becomes 'non-callable'. I put it in quotes because I know any firm can change the margin rate and terms at any darn time they please thus not making it non-callable.
6) Someone will say futures for the lowest rates. To my understanding, it is difficult to create an international and emerging market index easily. Of course the SP500 emini exists. If other large indexes that are traded routinely does exist someone please provide a link for me to check out and I'd love to learn
I am open to hearing dissenting thoughts. All I ask if we do not place too much importance on backtesting. I am against historicist bias. I mean absolutely no hate towards those that implement HFEA, either. I respect the vigorous and honest dialogue of the BH community.
3) Unless you are highly leveraged, you can get diversification by using UPRO for your leverage and then just owning more VXUS and VB, for example. You still end up at nearly identical exposure as 50% VXUS, 100% VTI if targeting 1.5x leverage.
5) Using options you would roll the option before it expires, but the costs of margins are a bit higher I think so I don't use them.
6) I believe there are international futures, but you don't need them, see #3. Just buy an S&P500 future, some VXUS and some VB and you have the same exposure as going 50% VXUS 100% VTI. The main problem with futures are taxes in taxable accounts.
For significant sums (>100-200k or >10% expected lifetime savings) I'd optimize with futures and box spreads. But for amounts <10% lifetime savings 50% UPRO + 50% VXUS is fine for simplicity and 2x leverage overall. Throw in some VB/VBR for small caps if you feel like it.
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Re: Leveraging with options vs margin
Volatility drag is not a killer. SPY returned 5.7x since July 2009, UPRO returned 44x. That's not 3x, that's nearly 10x. Daily rebalancing causes dramatic compounding in upwards markets. Daily rebalancing is bad in sideways markets but good in upwards markets. If you get 5 days in a row of up, UPRO will do much better than not rebalancing. Or if you get 10 years that are mostly up, UPRO will crush less frequent rebalancing (as it has).watchnerd wrote: ↑Tue May 04, 2021 9:48 pmEww, no, not for buy and hold.hi_there wrote: ↑Tue May 04, 2021 6:49 pm I would also guide you towards leveraged ETFs if you are intent on leveraging your portfolio. There is volatility drag, but they will probably be more efficient than call options, for which you would be paying for mostly unneeded convexity, and will be more practical than margin or futures, since you won't have to contend with operational trading and will also have automatic stop-losses from the ETF's rebalancing.
Volatility drag is a killer over time.
Even the leveraged ETF vendors (ProShares, Direxxion, etc) say they're not for buy and hold.
Think of it this way, if we knew that UPRO would consistently underperform other forms of 3x leverage (less frequent rebalancing), a risk-free arbitrage would exist to short UPRO and then do the better kind of leverage. Even in semi-efficient markets, such a gaping risk-free arbitrage opportunity cannot exist.
Theoretically, in the long run, daily rebalancing is at least as good as other types of rebalancing, and 'volatility drag' is not real. The financing and transaction costs of UPRO are a real concern though and from what I've seen a bit higher than other forms of leverage.
Re: Leveraging with options vs margin
But it underperforms regular leverage.Marseille07 wrote: ↑Tue May 04, 2021 9:57 pmIt's not "a killer." These people are looking to outperform 1x, and numerous sims show 2x and 3x deliver that, even with volatility drag.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
Re: Leveraging with options vs margin
You picked the longest bull run in history....skierincolorado wrote: ↑Tue May 04, 2021 10:54 pmVolatility drag is not a killer. SPY returned 5.7x since July 2009, UPRO returned 44x. That's not 3x, that's nearly 10x. Daily rebalancing causes dramatic compounding in upwards markets. Daily rebalancing is bad in sideways markets but good in upwards markets. If you get 5 days in a row of up, UPRO willwatchnerd wrote: ↑Tue May 04, 2021 9:48 pmEww, no, not for buy and hold.hi_there wrote: ↑Tue May 04, 2021 6:49 pm I would also guide you towards leveraged ETFs if you are intent on leveraging your portfolio. There is volatility drag, but they will probably be more efficient than call options, for which you would be paying for mostly unneeded convexity, and will be more practical than margin or futures, since you won't have to contend with operational trading and will also have automatic stop-losses from the ETF's rebalancing.
Volatility drag is a killer over time.
Even the leveraged ETF vendors (ProShares, Direxxion, etc) say they're not for buy and hold.
Nice data mining.
The OP is in his 30s.
He's going to be investing for 10-20 years.
He's going to hit down markets and sideways markets where a daily reset leverage will suck badly.
Last edited by watchnerd on Tue May 04, 2021 11:01 pm, edited 1 time in total.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
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Re: Leveraging with options vs margin
?? 2x and 3x are both like 120% of 1x. Not 200% or 300%, but higher.watchnerd wrote: ↑Tue May 04, 2021 10:57 pmBut it underperforms regular leverage.Marseille07 wrote: ↑Tue May 04, 2021 9:57 pmIt's not "a killer." These people are looking to outperform 1x, and numerous sims show 2x and 3x deliver that, even with volatility drag.
Re: Leveraging with options vs margin
Try it in a sideways market or a down market.Marseille07 wrote: ↑Tue May 04, 2021 11:01 pm
?? 2x and 3x are both like 120% of 1x. Not 200% or 300%, but higher.
Do you think the OP is only going to have up markets if his investment time frame is 10-20 years?
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
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Re: Leveraging with options vs margin
That's why I'm talking about long-term results being 1.2x of 1x...obviously if you're unlucky then you can underperform 1x.watchnerd wrote: ↑Tue May 04, 2021 11:02 pmTry it in a sideways market or a down market.Marseille07 wrote: ↑Tue May 04, 2021 11:01 pm
?? 2x and 3x are both like 120% of 1x. Not 200% or 300%, but higher.
Do you think the OP is only going to have up markets if his investment time frame is 10-20 years?
Re: Leveraging with options vs margin
Gotcha.Marseille07 wrote: ↑Tue May 04, 2021 11:04 pm That's why I'm talking about long-term results being 1.2x of 1x...obviously if you're unlucky then you can underperform 1x.
Full disclosure time:
How much SSO or UPRO are you holding?
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
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Re: Leveraging with options vs margin
Nothing. As I said upthread, the real "killer" is drawdowns and we already know SSO did -80%, UPRO did -97% in 2008. I'm not going to touch either with a 10-ft pole.watchnerd wrote: ↑Tue May 04, 2021 11:06 pmGotcha.Marseille07 wrote: ↑Tue May 04, 2021 11:04 pm That's why I'm talking about long-term results being 1.2x of 1x...obviously if you're unlucky then you can underperform 1x.
Full disclosure time:
How much SSO or UPRO are you holding?
Re: Leveraging with options vs margin
I messed around with SSO earlier in the year.Marseille07 wrote: ↑Tue May 04, 2021 11:07 pm
Nothing. As I said upthread, the real "killer" is drawdowns and we already know SSO did -80%, UPRO did -97% in 2008. I'm not going to touch either with a 10-ft pole.
I threw in the towel I realized I couldn't keep it balanced to market weight with international, even when using it alongside EET and EFO.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
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Re: Leveraging with options vs margin
This would happen with any form of extreme leverage. The daily rebalancing of UPRO would actually fair better than somebody who started at 3x leverage in 2008 and then rebalanced less frequently. They would be 100% wiped out long before the bottom even hit.Marseille07 wrote: ↑Tue May 04, 2021 11:07 pmNothing. As I said upthread, the real "killer" is drawdowns and we already know SSO did -80%, UPRO did -97% in 2008. I'm not going to touch either with a 10-ft pole.watchnerd wrote: ↑Tue May 04, 2021 11:06 pmGotcha.Marseille07 wrote: ↑Tue May 04, 2021 11:04 pm That's why I'm talking about long-term results being 1.2x of 1x...obviously if you're unlucky then you can underperform 1x.
Full disclosure time:
How much SSO or UPRO are you holding?
Holding 50% UPRO alongside 50% of an unleveraged fund like VXUS allows one to rebalance periodically to maintain more sane levels of leverage than 3x. The unleveraged VXUS stops you from even getting close to a 97% drawdown.
Re: Leveraging with options vs margin
I've held LETF's since 2017 and they've been quite profitable, even through the covid crash last March. I wish I'd gotten in sooner.Eww, no, not for buy and hold.
Volatility drag is a killer over time.
Even the leveraged ETF vendors (ProShares, Direxxion, etc) say they're not for buy and hold.
Those issuers say they're not buy and hold on a CYA basis.
Last edited by chris319 on Tue May 04, 2021 11:30 pm, edited 1 time in total.
Financial decisions based on emotion often turn out to be bad decisions.
Re: Leveraging with options vs margin
From the replies I realize this is a rather complex topic, so I'll need to spend some time evaluating several strategies.
I guess I'll have to study a little these leverage ETFs as well.
My initial hope was that I could do something as simple as move 20% of my Fidelity portfolio into an Interactive broker account, get a margin loan of the same amount, use those money to buy VT and forget about it for few years. It's clear that unfortunately life is not that simple
Anyway, thanks for the useful infos.
I guess I'll have to study a little these leverage ETFs as well.
My initial hope was that I could do something as simple as move 20% of my Fidelity portfolio into an Interactive broker account, get a margin loan of the same amount, use those money to buy VT and forget about it for few years. It's clear that unfortunately life is not that simple
Anyway, thanks for the useful infos.
Re: Leveraging with options vs margin
You've held them in an incredibly fortunate period in history to do so.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
Re: Leveraging with options vs margin
Yes, Sharpe's methodology (as discussed in your other thread) breaks down in real life for individual investors who don't have access to the same cheap leverage as institutional investors.Astones wrote: ↑Tue May 04, 2021 11:30 pm From the replies I realize this is a rather complex topic, so I'll need to spend some time evaluating several strategies.
I guess I'll have to study a little these leverage ETFs as well.
My initial hope was that I could do something as simple as move 20% of my Fidelity portfolio into an Interactive broker account, get a margin loan of the same amount, use those money to buy VT and forget about it for few years. It's clear that unfortunately life is not that simple
Anyway, thanks for the useful infos.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
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Re: Leveraging with options vs margin
I generally don't consider rebalancing when measuring the quality of investments. Holding 50% UPRO would still lose -97% (of 50%) in 2008, and it's actually bigger with rebalancing because you'd be selling VXUS and buying UPRO on the way down (the "throwing good money after bad" situation).skierincolorado wrote: ↑Tue May 04, 2021 11:21 pmThis would happen with any form of extreme leverage. The daily rebalancing of UPRO would actually fair better than somebody who started at 3x leverage in 2008 and then rebalanced less frequently. They would be 100% wiped out long before the bottom even hit.Marseille07 wrote: ↑Tue May 04, 2021 11:07 pmNothing. As I said upthread, the real "killer" is drawdowns and we already know SSO did -80%, UPRO did -97% in 2008. I'm not going to touch either with a 10-ft pole.watchnerd wrote: ↑Tue May 04, 2021 11:06 pmGotcha.Marseille07 wrote: ↑Tue May 04, 2021 11:04 pm That's why I'm talking about long-term results being 1.2x of 1x...obviously if you're unlucky then you can underperform 1x.
Full disclosure time:
How much SSO or UPRO are you holding?
Holding 50% UPRO alongside 50% of an unleveraged fund like VXUS allows one to rebalance periodically to maintain more sane levels of leverage than 3x. The unleveraged VXUS stops you from even getting close to a 97% drawdown.
The net loss won't be -97% I agree, but how much edge you gain by mixing in VXUS is questionable.
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Re: Leveraging with options vs margin
I think the poster underestimates drawdowns, and they don't see them until they walk into one.
Re: Leveraging with options vs margin
The margin interest clock will be ticking every second of every day.My initial hope was that I could do something as simple as move 20% of my Fidelity portfolio into an Interactive broker account, get a margin loan of the same amount, use those money to buy VT and forget about it for few years. It's clear that unfortunately life is not that simple
Financial decisions based on emotion often turn out to be bad decisions.
Re: Leveraging with options vs margin
There is a non-zero chance that I'll give up my resistance to the Swedroe approach and over-weigh SC and EM rather than using leverage on a world market ETF, if leverage really proves to be prohibitively costly and complicated.
Re: Leveraging with options vs margin
It's not prohibitively costly, but it is costly and complicated and you do need an abnormally long timeframe for it to work out given the risks. See lifecycle investing the book by ayres and naglebuff (unsure if I remember their names correctly)