A New Defensive Tool From Direxion?

rogernusbaum

Direxion ETFs are mostly known for 3X levered long and 3X levered short funds on indexes ranging from very broad to very narrow. I've never used Direxion funds personally or for clients but have never been opposed to levered products in that there is a way to use them effectively and of course used incorrectly, bad things will follow. The idea that something could be risky or have bad outcomes when used improperly is not a reason to ban the funds, some have talked about suitability paperwork for them along the lines of options paperwork. I don't know where the company stands on that but it seems reasonable.

Direxion also has a suite of what it calls Relative Weight ETFs. There are ten of them and the big idea is that they are long/short funds; long 150% and short 50% and they come in pairs like long domestic equities versus short foreign equities or long foreign and short domestic. There are also funds for large cap versus small cap, grown versus value and large cap versus small cap. Those four pairs, so eight out of the ten funds in the suite, require a little bit of guess work. Value has underperformed growth for a very long time relative to past cycles. This week's Barron's included someone's guess that value would now start to outperform. Will that happen? I don't know, neither does anyone else. That person could be right but who knows? And large cap versus small cap, here they are for the last ten years and while there clearly has been performance dispersion along the way, I would say the correlation is so tight that I'm not sure there's much benefit to shorting one versus the other.

If someone was looking for a liquid alternative type of return then maybe that could make sense but this is not a strategy I would look to for an alternative.

The one pairing that is interesting to me is (pro) cyclical stocks versus defensive stocks; Direxion MSCI USA Cyclicals Over Defensives ETF (RWCD) and Direxion MSCI USA Defensives Over Cyclicals ETF (RWDC). It is very small with only $13 million in AUM and the expense ratio is 0.45% which seems cheap for shorting stocks. Here's the chart of a pivotal six month window in 2019 compared to the S&P 500 Index.

RWDC, the one that is long defensives, most definitely smoothed out the ride during the inverted curve nano-panic last summer. The funds weren't around last fall otherwise I would have included that time frame in the chart. The nano-panic was nowhere close to a bear market in magnitude but it was a test and I would argue it passed that test.

The constituency of the fund has a couple of eye-popping sector weights and a surprise (to me) or two. It is long 70% healthcare, remember it goes long 150%, and 38% consumer staples. Those weightings are inline proportionately with the S&P 500 but those are big numbers. A surprise is that the fund considers energy to be defensive and is long 23%. Energy certainly used to be pro cyclical but maybe there's been a change in perception? The fund is short materials though which might contradict long energy but the weight to materials is an inconsequential 1.89%. It is short other sectors that you'd expect in larger weightings like tech, financials and industrials.

I think there is potential with this fund as part of a defensive strategy which in my case would be when the S&P 500 breaches its 200 day moving average (DMA). It is not clear to me that there is a lot of reason to hold it otherwise other than as some sort of alternative. Since its inception early in 2019 it is up about 9% versus 30% for the S&P 500 which isn't surprising for a fund that is short all of the megacap tech stocks that have done a lot of the market's heavy lifting this year.

There does appear to be some overlap with client holding AGFiQ U.S. Market Neutral Anti-Beta Fund (BTAL) which is clearly an alternative. I will do more work on this in case we ever have a bear market again (agree or disagree but I don't consider last year's very fast December panic to have been a true bear market).