Concerns about the suitability of leveraged, inverse exchange-traded funds (ETFs) for individual investors may cause Morningstar to stop its 1-to-5 rating of the products. The company may remove the ETFs from broader fund categories altogether and instead place them in a separate group, according to a Sept. 20 story in Bloomberg.
The reason for the possible change is that the ratings are designed for investment vehicles, and leveraged ETFs are trading vehicles. The products use derivatives and debt to amplify the returns of a market index, while inverse funds profit from declines in an underlying benchmark.
In an effort to determine whether investors needed additional protections regarding leveraged ETFs, the Securities and Exchange Commission (SEC) stopped approving new ETFs that made significant use of derivatives in March. Several months later, both the SEC and the Financial Industry Regulatory Authority (FINRA) issued a notice to investors on leveraged ETFs.
Among other things, the regulators cautioned investors about the products and stated that they may be inappropriate for long-term investors because returns can potentially deviate from underlying indexes when held for longer than a trading day.