The North American Securities Administrators Association is warning on the risks of leveraged and/or inverse exchange-traded funds, and is urging broker-dealers to tailor their supervisory procedures if they allow such ETF transactions.
In a Wednesday report on broker-dealer sales practices for nontraditional ETFs, NASAA warns that these products can present greater risks to investors than traditional ETFs due to their complexity.
NASAA’s Broker-Dealer Section’s Investment Products and Services Project Group polled 118 broker-dealers on whether their registered reps are recommending the purchase and sale of leveraged and/or inverse ETFs and, if those purchases and sales are permitted, how firms are supervising such transactions.
The data gathering, in part, was prompted by customer complaints investigated by NASAA members. The complaints included instances where the registered reps seemed unaware that leveraged and/or inverse products are not intended for long-term holding.
Of the 118 firms, the report found that 86 (73%) allowed leveraged and/or inverse ETFs to be held in retail customer accounts.
With respect to the 86 firms:
- 52% permitted reps to recommend leveraged and/or inverse ETFs to customers;
- 83% of the firms allowing leveraged and/or inverse ETFs in customer accounts confirm they have policies and procedures to address ETFs that are leveraged and/or inverse. However, only 59% address the review of customer suitability, and only 26% generate an exception report for positions held longer than one trading session.
“Broker-dealers should carefully consider whether to permit purchases of leveraged and/or inverse ETFs in retail customer accounts,” said Michael Pieciak, NASAA president and Vermont commissioner of financial regulation, said in releasing the report. “Registered representatives who recommend these products without fully understanding them and without receiving appropriate supervision by their firms pose a great risk to investors.”
Most of the broker-dealers that allow customers to purchase and hold leveraged and/or inverse ETFs confirmed they have procedures for these transactions, the report notes.
When asked about those procedures, however, a lesser number of firms indicated they are addressing and monitoring customer suitability, including holding periods.
“This suggests that there is room for improvement in the development and implementation of leveraged and/or inverse ETF-specific supervisory procedures,” the report concludes.