The Math Behind my $FAZ and $TZA Short Positions

Yes, it’s been a week and I am still holding my short positions in $FAZ and $TZA, both Direxion 3X Bear ETFs.  A few of my readers have asked if I am still holding, even though I haven’t made much money on them.  Or wondering why I didn’t take a small profit. 

First, to be clear, $FAZ and $TZA are inverse ETFS.  When the market goes up, these will go down.  Well, specifically, when financials go up, $FAZ goes down, and when small caps go up, $TZA goes down, and vice versa.  So shorting these two is a wager that the market is going up. 

Since the market generally goes up over time, I have this in my favor.  Also, rebalancing has a negative effect on these ETFs, also in my favor.  In this post I want to address a feature of these ETFs related to volatility. 

I’ll focus on $FAZ for this, and it’s opposite ETF, $FAS.  When $FAS goes up, $FAZ goes down, b pretyty much the exact percentage each day.  Sometimes odd things happen on a daily basis, but we can ignore that for the most part. 

Let’s start with an assumption that on the first day, $FAS goes up 1% and $FAZ declines by that same 1%.  Then on day two, the exact opposite happens.  You would expect that the result would be that both stocks end up unchanged.  But no, that’s not the way it works.  See the table below:

Day	$FAS	$FAZ
0	$100	$100
1	$101.00	$99.00
2	$99.99	$99.99

As you can see, both ETFs end up lower than where they started.  Only a penny.  But if we continue over 10 days. 

Day	$FAS	$FAZ
0	$100	$100
1	$101.00	$99.00
2	$99.99	$99.99
3	$100.99	$98.99
4	$99.98	$99.98
5	$100.98	$98.98
6	$99.97	$99.97
7	$100.97	$98.97
8	$99.96	$99.96
9	$100.96	$98.96
10	$99.95	$99.95

The losses magnify. This is only one factor, but over the long term, it is definitely a negative for the buyers of these leveraged ETFs.  So, I short them. 

A couple caveats.  One, it’s very unlikely you will get that kind of back and forth pattern regularly.  But it doesn’t matter, as any volatility over time will have the same impact.  Second, though is what happens if you don’t get that volatility?  What if stocks go down and just keep going down?  I’m not going to kid you, that’s a real risk of this strategy.  You can get burned.

That said, every strategy has risk.  It’s why I don’t recommend blindly following what I do.  Please do you own due diligence.   But I am willing to take the chance that the market will have its ups and downs. 

Not a very good day for the market or for me. At the end of the day, this is how I stand:

	Close	Initial Short	Gain (Losss)
NUGT	10.06	10.47	0.41
BIS	29.75	29.75	-
TZA	9.79	9.90	0.11
VIXM	55.65	54.60	(1.05)
RUSS	35.70	30.40	(5.30)
CORN	23.46	22.68	(0.78)
FAZ	11.58	11.45	(0.13)
UVXY	42.48	40.68	(1.80)
FXP	27.40	27.58	0.18