Lecture 3: Price Mechanism and Rebalance Mechanism of Leveraged ETF

Price Mechanism of Leveraged ETF

Leveraged ETF, essentially, is a fixed-leverage fund that allows its investors enjoy the yield of underlying asset with certain times every day. The fixed-leverage fund is managed by the platform or the certified fund manager. The platform will release the net value of the fund in real time, to ensure transparency.

Theoretically, the net value per share is the fair price of leveraged ETF product in secondary market. However, due to the volatile crypto market, there’s possibility that the transaction price in the secondary market derivates from the fair price (net value) in a certain period of time, causing premium.

When premium exists, there’s profit opportunity in secondary market, so the profit-earners will take the opportunity to gain earnings and remove the premium. As such, the transaction price back/near the fair price. For ordinary users, the order price you put shall not be too far away from the net value, or you may suffer great losses.

The following is the formula for calculating net value:

Rebalance Mechanism of Leveraged ETF

Generally, the rebalance will be performed at 00:00 (UTC+8) every day to avoid the enlargement of the gap between portfolio's leverage ratio and the agreed ratio. When there is a sharp fluctuation and the underlying asset ’s fluctuation exceeds a given threshold figure compared to the previous rebalance point (initially we set the threshold figure for 3x leverage short and long as 15%. In the future, if other leverages available, the figure may be adjusted.), we will perform rebalancing to control the risk of the investment portfolio in time. The rebalancing is only for the party that has lost money in the volatile market. For example, if the BTC rises by 15%, we will rebalance the BTC3S product, and will not adjust BTC3L. Please note that when the market trend continue to rise or fall after rebalancing, user’s loss will be decreased, but if the market trend converses after rebalancing, the bounce of the product price may also become weaker than that before the rebalance triggered.

Return Rate Dynamism

Take BTC3L (BTC 3x long product) as an example.

If the daily trend of the BTC in spot market in four days is +10%, +10%, +10%, +10% respectively, the return rate of BTC3L will be 185%, higher than the 3 times of the return rate of BTC in spot market (that is 44%);

If it is -10%, -10%, -10%, -10% respectively, the return rate will be -76%, lower than the 3 times of return rate of BTC in spot market (that is 35%);

If it is +10%, -10%, +10%, -10%, the return rate of BTC3L in four days will be -17%, underperform the 3 times of BTC’s return rate in four days of 2%.

Therefore, we can see that when it exceeds a rebalance period circle, the accumulated return rate of leveraged ETF product is unable to keep fixed leverage to that of the spot product. Specifically, under a single market trend (rise/fall), the performance of leveraged ETF will overtake the claimed leverage times (i.e. the accumulated increase amount of leveraged ETF product in the same direction will surpass the 3 times of return rate of the underlying asset, and the accumulated decrease amount of the inverse leveraged ETF product will be smaller than the 3 times of the underlying asset’s return rate). However, the performance of leveraged ETF product under fluctuation market will underperform the claimed leverage times.

Warning

Leveraged ETF is a tradable product that tracks three times the daily profit of underlying assets. Users shall pay attention to the gap between the actual net value of the product and the latest price when placing an order. If you put the order in the opposite direction, there is a risk that the price will approach zero in extreme conditions. This product subjects to the derivative with high risk. Please watch out the risk in investment.