Five months ago, Doug Morrow figured he could make money betting that oil prices would head north again from about $37 (U.S.) a barrel.

Using a discount broker, he invested more than $10,000 to buy a special exchange-traded fund that aims to double the daily return of crude futures. However much oil went up, he would make two times that. Or so he thought.

While his hunch on commodity's direction proved right - crude oil rose about 60 per cent in four months starting in mid-January - his investment languished in the red. He had bought a leveraged ETF called the Horizons BetaPro NYMEX Crude Oil Bull ETF . But Mr. Morrow began to feel as if he'd signed up for a casino game.

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"It's like heads you win, tails you lose," lamented the 32-year-old investor. "If you hold these things for anything longer than a day, you have to be careful," said Mr. Morrow, who lives in Toronto.

Mr. Morrow, a recent MBA graduate, hung in until the fund finally rose above his initial investment. He recently sold at $9.07 a unit - a mere 13.5 per cent higher than his average purchase price, while oil had doubled.

Welcome to the world of leveraged ETFs, an investment fund vehicle that seductively promises the potential of double or triple the returns of an index or commodity. While the "bull" and "bear" versions of these funds have been gaining popularity in North America, they have also come under increasing scrutiny by securities regulators and by investor advocacy groups as investor complaints rise.

"[These ETFs are]very hazardous for retail investors" because they don't understand that expectations about their performance should not exceed more than a day, said Ermanno Pascutto, executive director of the Canadian Foundation for the Advancement of Investor Rights [FAIR Canada]

"We are calling for better disclosure [in prospectuses]and warnings in the marketing. We have regulated plain-vanilla ETFs in a certain way, but [leveraged]ETFs have morphed into a completely different product."









The longer investors hold them, and the more volatile the underlying index the ETF tracks, the further away the ETF can get from actually doubling or tripling the underlying index.









are offered by BetaPro Management Inc., a unit of Jovian Capital Corp. It is currently the only player in Canada offering leveraged ETFs and maintains that its current disclosures about these investments are adequate.

It says that is why as many as 40 per cent of the users are retail investors.

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"I am sure that some people didn't initially understand them, but I would suggest that given the popularity of these products … that the vast majority do understand them," BetaPro president Howard Atkinson said.

There are 30 leveraged ETFs trading in Canada. They are different from conventional ETFS in that they attempt to give investors a turbo-charged return through the use of derivatives. They can work if investors hold them for a single day, and make a right bet.

But the longer investors hold them, and the more volatile the underlying index the ETF tracks, the further away the ETF can get from actually doubling or tripling the underlying index.

Canadians have made no small bet on these funds either. They hold close to $2.3-billion of leveraged ETFs now, all with BetaPro, up about 69 per cent in the past year.

















While most retail investors are looking for these ETFs as a way to get a bigger bang for their buck, sophisticated investors like fund managers are using the "bear" ETFs to hedge portfolios - to have something that goes up when everything else is falling - in addition to making short-term speculative bets.

Ken Kivenko, a Toronto-based investor advocate, has no problem with BetaPro's prospectus disclosure for its leveraged ETFs, and suggested the problem lies with financial advisers not properly trained to sell them.

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He recently helped nine senior citizens retrieve their money - about $12,000 to $14,000 each - from brokerages after they complained about losing money on these ETFs within weeks.

Their investment advisers had thought the ETFs would hedge portfolios from market downturns, but that didn't turn out to be the case.

"It didn't matter if they were in a bull or bear ETF, they still lost," said Mr. Kivenko, who is also chairman of the advisory committee of the Small Investor Protection Association.

Leveraged ETFs are better suited to sophisticated investors like day traders, he said. "These are very complex products if you look at the mathematics. … The firms conceded the ETFs were unsuitable investments sold by advisers who may themselves not been aware of the perverse dynamics of these securities."

FAIR Canada's Mr. Pascutto disagrees that BetaPro's prospectus disclosure is investor-friendly.

He wants regulators to require companies selling leveraged ETFs in Canada to file a prospectus with bold front-page disclosure in plain English of the risks of holding these products for longer than a few days, particularly in volatile markets.

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BetaPro's Mr. Atkinson said his firm's prospectuses have been evolving but argued that the "current disclosure [of risks]is more than adequate." He said the ETFs aim to provide "daily investment results" on the second page of each prospectus.

"Our TV ads are 15 seconds long, and in print, we have banner ads," he added. "We always refer in our ads to either the prospectus, and on TV to contact their adviser. … People can go to the website and go and download the prospectus or read the material. It's all there."

But it's not always easy for even financial professionals to understand how these funds work. BetaPro recently held a series of "ETF University" seminars in major cities to educate financial advisers.

"They're more complex products than they appear," an adviser with a national brokerage firm said on the way out of one session. "I've had some experiences with them where I misunderstood the two-to-one aspect on a daily basis."

Leveraged ETFs are not only catching on in Canada. There are more than 110 of them in the United States, worth about $33-billion (U.S.). At least three companies sell them there and so far one company stands out for its disclosure.

U.S.-based DirexionFunds, which sells triple-leveraged ETFs, has better disclosure about the risks than BetaPro, FAIR Canada says.

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Direxion has a warning about the risks on the front page of its prospectuses, saying, "Investors who do not understand the funds or do not intend to manage the funds on a daily basis should not buy the funds."

Direxion also uses the word "daily" in the names of its ETFs to reinforce the notion of holding them for a single day, and warns that "Direxion shares are not for everyone" on its website.

"They [ETFs]are for generally sophisticated investors," Direxion marketing director Andy O'Rourke said. "Our average holding is around half to three-quarters a day."

Mr. Atkinson, however, dismissed the suggestion that his firm should emulate Direxion, saying it is not a fair comparison because the U.S. company is offering a triple-leveraged ETF - a totally different product.

"It is obvious that path dependency [consistent direction of the underlying index]is going to be even more important as you increase the leverage," he said.

Pros likes Steve Martin, a portfolio manager at Creststreet Asset Management Ltd., who uses the BetaPro ETFs, says he will only hold them for three to five days at most. "They can be dangerous if you don't know the exact mechanics, and how different trends and volatility can impact returns," he said.

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Currently, the Ontario Securities Commission and the U.S. Securities and Exchange Commission are taking a closer look at complaints about leveraged ETFs. "We are carefully considering those concerns, as well as what appropriate regulatory steps might be taken to address them," an OSC spokeswoman said in an e-mail.

SEC chairmanMary Schapiro said in April that leveraged ETFs had not been properly scrutinized, and that staff were being added to examine them and other new ETF products.

Complaints from investor advocates and some individuals have spurred the Investment Industry Regulatory Organization of Canada (IIROC) to warn in a notice to dealers recently that these ETFs are "typically not suitable for retail investors who plan to hold them for more than one trading session, particularly in volatile markets."

Maureen Jensen, senior vice-president of surveillance and compliance with IIROC, the self-regulatory body for the brokerage industry, said the notice is to tell dealers to make sure all of their investment advisers understand what they are selling.

Some experts believe that individual investors should avoid leveraged ETFs altogether. Paul Justice, an ETF strategist with Chicago-based fund analysis firm Morningstar Inc., suggested that leveraged ETFs can "kill portfolios."

Morningstar has received "several hundred, if not thousands," of complaints from American investors over the past six months about leveraged ETFs, Mr. Justice said.

"There is no other holding on the market that is meant to be held a single day. If you are in a volatile market like we have witnessed over the past year, these funds perform more like a random number generator than anything else."