XBI - LABU: Opportunities For Gains Exist If Bought And Sold At Correct Price

Summary

• LABU is more volatile than unleveraged funds, due to its 3-times investments in the derivatives of stocks listed in its benchmark index.
• During the past 4 months, biotechnology stocks performed quite well, and this bull run has come during a period when the overall market performed poorly.
• Historically, prices remained in a certain range at least for a week. This provides a strong case for investing in this fund when it is trading low.

Last time when I covered Direxion Daily S&P Biotech Bull 3x Shares ETF ( LABU ), I thought it was a risky fund. On 23rd June, when I wrote that article, the fund was trading at $7.35, and is now priced at around almost the same level. In between, the price went beyond $13 in August, and also lower than $6 in the last week of October.

Because the fund invests 3 times on derivatives of each stock of the index that it is tracking, the fund by default is more volatile than normal 1x funds. That shows the fund is highly volatile, and gains can be made in shorter periods, if bought and sold at the correct price. As the fund doesn’t pay any dividend , investors should look out for a target bottom in order to capitalize on the expected revival of biotechnology stocks.

Direxion Daily S&P Biotech Bull 3X Shares

LABU is an exchange-traded fund ("ETF") launched by Direxion Investments and that is managed by Rafferty Asset Management, LLC. LABU is a 3x leveraged ETF that invests 3 times in derivatives of companies that are included in S&P Biotechnology Select Industry Index ( SPSIBITR ). SPSIBITR boasts of stocks primarily in the biotechnology and life sciences sectors. LABU’s investment moves 3x upwards or downwards with respect to this benchmark index. LABU has an asset under management ("AUM") of almost $1 billion, and a high expense ratio of 0.96. However, most 3x leveraged ETFs have relatively high expense ratios, due to their very nature of 3 times investments in derivatives of the stocks listed in the underlying index.

I was pessimistic about the performance of the overall biotechnology industry, and said so in my previous coverage:

The biotechnology sector is going through a bearish phase and the trend is likely to continue for the foreseeable future. Biotechnology sector in general is quite volatile due to its inherent nature of being impacted by unfavorable policies, product launches, testing, and approvals, etc. Biotechnology and pharmaceutical sectors are yet to overcome uncertainties surrounding the probable drug pricing reform which was an integral part of President Biden's 'Build Back Better' campaign.

That’s why when LABU is trading within a short range for a few weeks, investors can trade it successfully, but otherwise its unpredictable volatility can quickly lead to big losses if they hold on for too long.

Better Performance of Biotechnology Sector Provides Hope to Investors

I believe that 3x leveraged ETFs of Direxion such as Daily S&P Biotech Bear 3X Shares ( LABD ), Daily Semiconductor Bull 3X Shares ( SOXL ), Daily Small Cap Bull 3X Shares ( TNA ), and Daily Small Cap Bear 3X Shares ( TZA ), are not suitable for long-term investments. In one of my earlier coverages I mentioned that:

“None of these 3x leveraged funds is able to instill confidence in me, so that I can treat it as a lucrative or obvious investment instrument in order to seek growth for my portfolio of investments. Overall, I find all these 3x derivative ETFs to be extremely volatile and risky.”

However, during the past four months, biotechnology stocks have performed quite well. SPDR S&P Biotech ETF ( XBI ) made strong price gains from a level of $70 during last week of June, to a level of almost $85 at present. XBI rose as high as $95.18 during mid-August. This bull run has come during a period when stocks of almost all other sectors have performed poorly. Although no specific reason can confidently be pointed out, the trend is encouraging and will hopefully continue for a few more months. Multiple interest rate hikes and rising inflation did not have that drastic impact on the biotechnology sector. However, going forward, a prolonged recession may create problems for the biotechnology companies, as that may derail their plans.

As LABU is more of a derivative instrument than an investment option, LABU’s performance will solely depend on the performance of the biotechnology sector. Moreover, the cyclical nature of this sector with respect to stock market performance makes me agree with the policy statements of Direxion that:

“Leveraged ETFs are not suitable for all investors and should be utilized only by investors who understand the risks associated with seeking daily leveraged and inverse investment results, and intend to actively monitor and manage their investments. Due to the daily nature of the leveraged and inverse investment strategies employed, there is no guarantee of long-term inverse returns.”

Thus, investors need to be cautiously optimistic.

Investment Thesis

Direxion Daily S&P Biotech Bull 3x Shares ETF is much more volatile than unleveraged funds, due to its 3 times investments in the derivatives of stocks listed in its benchmark index. The cyclical nature of the biotechnology sector with respect to stock market performance, adds further fuel to LABU’s price volatility. So, there lie opportunities of making strong gains in the short term. If investors can buy this fund at a low price, they will surely gain on those days in which the fund’s net asset value (NAV) gets a good hike.

Historically, it has been observed that prices remain in a certain range at least for a week. For example, during the week between June 13 and June 17, the fund traded below $5. On the other hand, during August 8 and August 12, LABU traded around $13. This provides a strong case for investing in this stock when it is trading low. I would advocate a buy once it again comes down to a level of $5. For the time being, existing investors should hold their investments in the Direxion Daily S&P Biotech Bull 3x Shares ETF.

For further details see: