The posted links contain invaluable information in addition to the instrument prospectus if one considers to hold leveraged ETFs for a longer period of time:

• https://www.math.nyu.edu/faculty/avellane/LETFRISKPROF.pdf
• A Close Look at the Math Behind Leveraged ETF Returns » The Calculating Investor

There's some good information there. Thanks.
I shied away from ETFs due to their weird tax structure. But also because of what the article talks about - undercorrelation.

I was wondering though, does the under-correlation only happen with Leveraged ETFs or is it also a "feature" of regular ETFs?

Thanks,
BlackSwan

Hello Blackswan,

As fas as I understand it, it really depends on the exchange traded product (ETP) at hand, and how it is structured:

• What does the ETP track?
• How does the ETP track it? (physical, synthetic)

For example:

A VIX related ETP is using futures, or swaps to replicate the benchmark. This process of rebalancing is subject to an array of costs including rollover costs. Subsequently, these costs are carried by the ETP and cause drag on the ETF relative to the index it is trying to track. This in turn leads to an under-correlation.

Alternatively, physical replication also has costs attached as the assets (think of commodities of example) need to be stored somewhere. Notably, these costs are carried by the ETP which in turn translates to an under-correlation of the asset.

In conclusion, some ETPs experience more under-correlation than others, as such I would strongly recommend reading the product prospectus before trading it so that one can model/ anticipate the extend of the costs that the ETP is likely to incur.

Also worth mentioning is to check whether it is an Exchange Traded Fund (ETF) or Exchange Traded Note (ETN) that one is buying. Different products have different advantages and disadvantages. See the following source for reference: The Definitive Guide To MLP ETFs And ETNs - NASDAQ.com

Yeah, originally I was looking at ETFs for some investing as opposed to trading. Something that would match the indexes without the capital and rollover requirements of index futures. Eventually gave up as it's not a priority right now.
The above is all good info people definitely need to understand before jumping into ETFs. Good post.

Not all ETPs are alike, and quite a few of them are investable. Considering that they are often cheaper than mutual funds and offer more liquidity. However, it does take some additional research. In my opinion dividend ETFs are not a bad place to start to diversify with a minimal capital outlay. I would just stay away from leveraged, inverse, and more exotic ETPs for 'investment' purposes.

Useful tool:

• The Web's Best ETF Screener | ETF Database