Today we are going to try to explain a product that it is a little bit more complex than the stocks and shares, the Leverage Short and Leverage Long ETFs.
Leverage ETFs (Exchange-Traded Funds) are financial instruments designed to amplify returns, making them attractive for traders who want to profit from both rising and falling markets. However, they carry significant risks that many investors overlook.
In this guide, we will cover:
- What leveraged ETFs are and how they work
- The difference between long and short leveraged ETFs
- Volatility decay and how it can erode returns
- How much you can lose when investing in leveraged ETFs
- When to buy long or short leveraged ETFs based on market conditions
- Popular leveraged ETFs for UK investors in 2025
By the end, we hope that you’ll have a solid understanding of leveraged ETFs and whether they fit your investment strategy.
What Are Leveraged ETFs?
A leveraged ETF is a type of exchange-traded fund that aims to deliver magnified returns based on the performance of an underlying index or asset. They achieve this by using derivatives, options, and debt to multiply gains (or losses).
Instead of tracking an index 1:1 like a traditional ETF, a leveraged ETF will move at two or three times the daily movement of its benchmark.
For example:
- A 2x leveraged ETF seeks to provide twice the daily return of its underlying index.
- A 3x leveraged ETF aims to provide three times the daily return.
However, these funds do not hold their positions over the long term. They reset daily, which means their returns may not match their expected multiple over time due to compounding and volatility decay. Don’t worry, we are explaining about this further down the post.
How Long and Short Leveraged ETFs Work
- Long leveraged ETFs (Bull ETFs) are designed for investors who believe the market will rise. They magnify gains when the market moves up but also increase losses when the market falls.
- Short leveraged ETFs (Inverse ETFs) move in the opposite direction of the market. They allow traders to profit when stocks or indices decline.
Example of How a Leveraged ETF Performs
If the S&P 500 gains 1% in a single day:
- A 2x long ETF would gain 2%
- A 3x long ETF would gain 3%
If the S&P 500 drops by 1%:
- A 2x short ETF would gain 2%
- A 3x short ETF would gain 3%
However, leveraged ETFs reset daily, meaning holding them for multiple days can lead to returns that differ from expectations due to volatility decay.
Understanding Volatility Decay in Leveraged ETFs
Volatility decay is one of the biggest risks of leveraged ETFs. It occurs because leveraged ETFs reset daily, and in volatile markets, these funds lose value over time even if the underlying index stays relatively flat.
Example of Volatility Decay
Assume the S&P 500 starts at 1,000 points. Over four days, it fluctuates:
- Day 1: +5% → 1,050
- Day 2: -5% → 997.5
- Day 3: +5% → 1,047.4
- Day 4: -5% → 995
At the end of four days, the S&P 500 has lost 0.5%, but a 3x leveraged ETF would lose significantly more.
- Day 1: +15% → 1,150
- Day 2: -15% → 977.5
- Day 3: +15% → 1,124
- Day 4: -15% → 955.4
The 3x leveraged ETF has lost 4.5%, even though the index only dropped by 0.5%, so that is more than the 3 times you would expect. The larger the market fluctuations, the worse the effect of volatility decay.
This is why leveraged ETFs are not suitable for long-term investing—they are designed for short-term trading.
How Much Money Can You Lose With Leveraged ETFs?
You might be wondering what is the maximum money that you could lose with this products and as you have learnt leveraged ETFs can lead to rapid and substantial losses. Let’s see in more detail what would happen with each of the cases.
Maximum Loss for Long Leveraged ETFs
If you invest £1,000 in a 3x long ETF and the index drops 33.4% in a day, your entire investment would be wiped out. The ETF would fall 100% in value, meaning you lose all your money. On this post we are only talking about Leverage ETFs that normally have smaller swings in value, however there are also Leverage ETFs for specific shares such as the Leverage 3x Long NVDA or Leverage 3x Long Palantir to name some. These had massive losses and return recently due to the bigger movements on the individual stock prices.
Maximum Loss for Short Leveraged ETFs
For short leveraged ETFs, the losses are potentially unlimited. If a 3x short ETF is tracking an index and the index rises sharply, the ETF can lose more than 100% of its value, leading to a total loss. Some leveraged ETFs have built-in protection to prevent going below zero, but in extreme cases, investors could be forced to close their positions at a loss. If you missed it, we did an article as well on how shorting a stock works.
When to Use Long or Short Leveraged ETFs
Long Leveraged ETFs Are Best When:
- The market is in a strong uptrend with low volatility.
- You expect a short-term rally in a specific sector.
- The overall economy is expanding, and stocks are moving higher.
Short Leveraged ETFs Are Best When:
- The market is in a downtrend, and stocks are expected to decline.
- You want to hedge against losses in your portfolio.
- The economy is showing signs of recession, and you expect stock prices to fall.
If the market is choppy and highly volatile, both long and short leveraged ETFs can lose value quickly due to volatility decay.
Best Leveraged ETFs for UK Investors in 2025
ProShares UltraPro QQQ (TQQQ) – 3x Nasdaq 100 Long
- Seeks 3x the daily return of the Nasdaq 100.
- Suitable for traders bullish on tech stocks.
Direxion Daily S&P 500 Bull 3x Shares (SPXL) – 3x S&P 500 Long
- Offers 3x exposure to the S&P 500 index.
- A high-risk, high-reward bet on US stock market growth.
ProShares UltraShort S&P 500 (SDS) – 2x S&P 500 Short
- Moves opposite to the S&P 500, gaining when the market declines.
- Used as a hedge in bear markets.
Direxion Daily Financial Bear 3x Shares (FAZ) – 3x Short Financials
- Provides 3x short exposure to the financial sector.
- Profits when banks and financial stocks drop.
ProShares UltraPro Short QQQ (SQQQ) – 3x Short Nasdaq 100
- Inversely tracks Nasdaq 100, gaining value when tech stocks fall.
- High risk but useful for short-term bearish trades.
Should You Invest in Leveraged ETFs?
Leveraged ETFs aren’t for everyone. They are best suited for:
• Short-term traders who understand the risks and actively manage positions.
• Experienced investors who can react quickly to market movements.
• Hedging strategies where investors use short leveraged ETFs to protect their portfolios.
They are not recommended for:
• Long-term investors due to the impact of volatility decay.
• Beginner investors who may not understand how leverage affects returns.
A quick highlight
Leveraged ETFs offer exciting opportunities to profit in both bull and bear markets, but they require careful risk management. If used incorrectly, they can lead to massive losses, especially in volatile markets.
If you plan to use leveraged ETFs, consider them as short-term trading tools, not long-term investments. Always monitor them closely and understand the risks before investing.
Would you consider trading leveraged ETFs? Let us know your thoughts in the comments below!
