JDST - JDST: Despite Downside From High Rates Upside From Dollar Concerns

2023-05-16 17:45:14 ET

Summary

• The factors affecting Direxion Daily Junior Gold Miners Index Bear 2X Shares ETF right now are on one hand higher rates on fiat currencies, but on the other risks around the USD as it associates with the debt ceiling.
• The JDST exchange-traded fund is a short play on gold, but there's no reason that speculators can be sure it will go down and not up.
• Moreover, there is a chance we're about to see peak rates, which would also be a positive supply for gold on top of general economic and geopolitical concerns.
• On balance it's not a good play, and the fact that it's a leveraged ETF makes it all the more unattractive.

The Direxion Daily Junior Gold Miners Index Bear 2X Shares ETF ( JDST ) is a leveraged exchange-traded fund ("ETF") and a bear's bet on the price of gold. JDST tracks an ETF of gold and silver miners, mostly small and micro-cap stocks, whose values depend on either operating gold and silver mines or on gold and silver mine reserves that may soon become operational. Due to macroeconomic developments, and also due to geopolitical and domestic developments in the U.S., a bear's bet against gold doesn't seem that well timed. While gold is close to record levels, both dangers around U.S. debt as well as an eventual rate peak spell supporting forces for gold. With JDST also being a leveraged bet, we think it's best to stay away.

First a Note on Leveraged ETFs

It's really important to start with some notes on leveraged ETFs that investors should go further and inform themselves fully about, because they do carry special and quite severe risks.

Because they reset daily after mimicking changes in the index that day by a -2x factor in the case of JDST, there is the problem of value erosion. While a 1% rebound after a 2% drop isn't so bad, having a 6% drop and a 3% rebound is more of a problem. There is a reason why Warren Buffett's #1 rule is, don't lose money. If you lose money, you have less to recover with, meaning for every drop you need a bigger percentage recovery to bring you back to square 1. If an asset drops 33%, you need an almost 50% recovery to recover. If an asset drops 50%, you need 100% recovery to breakeven. Even if the next day is a bigger rebound than what you lost the previous day, with leveraged ETFs it is still less helpful even if the recovery gets doubled because more money was lost the prior day. Since things can get volatile in the underlying JDST index, since it does cover pretty small-cap stocks, this leverage effect can be especially scary.

If you don't fully understand these risks, do not proceed with a leveraged ETF. They are best used over short durations because of value erosion. They are highly speculative instruments designed for much shorter term horizons.

There may be more risks associated with leveraged ETFs that we have failed to mention, so read up further on these instruments.

Links for reference on these risks:

• The Lowdown on Leveraged and Inverse Exchange-Traded Products
• Leveraged and Inverse ETFs: Specialized Products with Extra Risks for Buy-and-Hold Investors
• Regulatory Notice 09-31 | FINRA.org .

There's also the fact that these leveraged ETFs typically have quite high expense ratios, with JDST at 1.15% . While that's quite a low cost to get access to leverage, as described above the leverage comes with the daily reset condition, which is different from a plain, leveraged short.

Factors Affecting JDST

We think that only a couple more rate hikes, or at least no rate pivot, is the likely future. That means that there is a smaller force rendering gold less productive than deposited cash, which for a period was one of the speculative forces against gold. Inflation is easing , and while it is still way above policy rates, inflation up the pipe is looking even cooler, with lower wholesale and producer price inflation nearing 2%. If rate expectations continued to rise, that would probably be somewhat bad for gold since deposited cash would provide options for longer duration fixed income bets that would pay off nicely once inflation eventually would die down. In the absence of flaring inflation, and with economic conditions probably already cooling conditions on the corporate side which is where inflation really started, before it was passed onto consumers, rates and the negative case for gold should not develop on this front.

The other major factor is the debt ceiling impasse . The U.S. is the world reserve currency, but it could lose this exorbitant privilege if the U.S. were to be seen as having systemic debt troubles. While it's already obvious to anyone with eyes that the U.S. doesn't have the revenues to pay off the public debt, the almost limitless demand for U.S. Treasuries as the baseline risk-free instrument sustains the debt and is converse with the reserve currency status of the USD. The problem is if political division, which is likely to be a secular problem for the U.S., becomes associated as a factor in the model for what the market rate for U.S. debt should be. If political division increases the probability of a default, even if it remains overall unlikely, gold and other commodities may become a more worthwhile store of value than the USD for speculators and even longer-term allocators. U.S. rates would grow further, but not voluntarily through Fed action. When technical issues spurred a technical default several decades ago, that was enough to put a lasting premium on US debt. Imagine if it were caused by something as fundamental as the political divide. Extremely dangerous.

Bottom Line

There's really no reason to take a leveraged bet against gold except for looking at its current price levels, which are high historically.

That may be markets already pricing in a scare for the USD, where the debt ceiling impasse could continue to stir up new speculative forces to have more persistent concerns around the reserve status of the USD, which was also in question for a while during the pandemic at the onset of the massive money printing.

There are other things to consider, like general geopolitical turmoil ramping up further. Taiwan remains a question mark. Buffett just sold Taiwan Semiconductor Manufacturing Company Limited ( TSM ) likely because of the doom that an invasion would spell for that company's financial condition, even if that risk is remote. The discord that would follow from an invasion, even if the chances are remote, would likely spur even more demand for gold, as geopolitics have in the last year and a half.

Direxion Daily Junior Gold Miners Index Bear 2X Shares ETF is a leveraged bet against a commodity that on balance has a more bullish than bearish outlook. Taking on leverage to try to speculate on the very next FOMC meeting isn't done ideally with a JDST position, either, since there are other correlates for gold than just rates. Direxion Daily Junior Gold Miners Index Bear 2X Shares ETF is just not something we'd ever consider at the moment given the risks.

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