Shorting The Nasdaq With ETFs [PowerShares QQQ Trust, Series 1 (ETF), ProShares Short QQQ (ETF)]

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May 21, 2014 11:49am NASDAQ:SQQQ NYSE:PSQ

facebook nasdaqApril was a lackluster month for major benchmark indices such as the Dow Jones Industrial Average and the S&P 500. For the month, the Dow and S&P 500 reported only modest gains of 0.8% and 0.6%, respectively.

Nonetheless, the main point to be noted was that after struggling for almost four months, the Dow finally managed to close at a new all-time high of 16,580 on the last day of April. The Dow had clocked its last high on December 31, 2013.

April was also pretty volatile for the tech-heavy Nasdaq. Thanks to intense selling pressure in Biotech and Internet stocks on valuation concerns, Nasdaq slipped 2% last month.

These high flying momentum stocks, which defied gravity last year clocking spectacular gains, have been punished by investors over the past couple of weeks. Apart from lofty valuation concerns, a slew of downbeat economic numbers and renewed geopolitical tensions pertaining to Russia also led to the plunge.

Some of the top holdings of the Nasdaq index, such as Google, Amazon, Twitter and Facebook have all shed more than 3%, and for some, losses have even been as deep as 15% in the past two months.

Furthermore, the technology sector hasn’t contributed much to the overall earnings growth in recent quarters. The same trend was witnessed in Q1 as well. Total earnings for the 83.9% of the sector’s total market capitalization that have reported results were up 5% on 4% higher revenues as compared to 6.3% earnings growth for the sector in the sequentially preceding quarter on 4.5% higher revenues.

Moreover, with more than half of the S&P 500 members having reported their earnings for the first quarter of 2014, we have seen a fall in consensus estimates for the second quarter too.

Total earnings for this quarter are currently expected to be up 4.2% from the same period last year, as opposed to the 5.5% growth rate that was predicted about a month ago (see 3 ETFs Hitting All-Time Highs in Rocky Market).

Further, it might be difficult for the stock markets to continue with their rally this year, given the steady reduction in Federal Reserve’s monthly bond purchases. The Fed has cut its monthly asset-purchase program by another $10 billion to $45 billion.

Also, the well-known trading adage, “sell in May and go away” might work perfectly for U.S. equity markets this year. The strategy suggests that historically equity markets have underperformed during the summer months (from May to the end of October), and as such, investors would be better off reducing their exposure to stocks in May.

In fact, the equity markets have underperformed bonds as well during this period over the past 36 years. While the S&P has returned a total 3.3% from May through October, the Barclays Aggregate Bond Index has returned 7.6% in the past 36 years during the same months, according to Sam Stovall, chief U.S. equity strategist at S&P Capital IQ.

Moreover, with mid-term elections due this year, investors might see volatility in the months ahead, further adding to the appeal of short or lower risk investments during the summer (read: Sell in May and Go Away with These Inverse ETFs).

Given the broad based tech and biotech sell-off in the past two months and a not so promising overall picture of the equity markets, investors wishing to bet against the Nasdaq can also consider the below-mentioned inverse or leveraged ETFs, any of which could do well if more pain hits the Nasdaq market in the weeks ahead:

ProShares Short QQQ (NYSEARCA:PSQ)

Launched in June 2006, PSQ provides inverse exposure to the daily performance of the NASDAQ-100 Index which includes 100 large-cap non-financial companies listed on The NASDAQ Stock Market based on market capitalization.

As such the index provides exposure to industry groups such as computer hardware and software, telecommunications, retail/wholesale trade and biotechnology.

The index has the highest exposure to Apple (11.92%), followed by 8.47% exposure to Microsoft and 7.77% to Google. Amazon, QUALCOMM, Intel, Facebook, Gilead and Comcast are some of the other stocks included in the top ten holdings of the index.

Sector-wise, the index has 39.67% exposure to Technology stocks, followed by 33.65% to Communications, 18.13% allocation to Consumer Staples and 7.36% exposure to Consumer Cyclical.

The fund typically gains short exposure to the index by entering into swap agreements and future contracts with various financial institutions (see all the Inverse Equity ETFs here).

PSQ charges 95 basis points as fees and manages an asset base of $266.5 million.

ProShares UltraShort QQQ (NASDAQ:QID)

For investors having a more bearish view on the Nasdaq 100 index, you can consider QID, which is designed to provide twice the inverse exposure to the performance of the NASDAQ-100.

The fund has an asset base of $360 million and charges 95 basis points as expenses. The product also has a decent average volume of more than 6 million shares traded a day.

UltraPro Short QQQ (NASDAQ:SQQQ)

Launched in September 2010, the fund seeks to deliver thrice (3x or 300%) the inverse (opposite) return of the daily performance of the Nasdaq 100 Index, before fees and expenses.

The fund too has the same expense ratio as the above two products and has amassed $275 million since inception.

Bottom Line

Though one can surely consider any of the above three ETFs for gaining short exposure, investors should, however, note that the above products are not suitable for long-term sell or hold purposes as it is rebalanced on a daily basis. Instead, investors could make a short-term play on them if they believe that weakness is coming this summer for this important market index (Zacks doesn’t rank inverse and leveraged ETFs in view of their short-term performance objectives).

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