As volatility in the domestic stock market has risen this month, "double inverse" exchange-traded notes (ETNs) that bet on declines in the KOSPI and KOSDAQ indexes are facing the risk of early liquidation. While the indexes have moved sideways, the "negative compounding effect" has amplified cumulative losses.
For products that track daily returns by a multiple, a negative compounding effect occurs in which cumulative losses grow when the underlying asset repeatedly rises and falls. In particular, as issues with an indicator value below 1,000 won—an early liquidation requirement—are emerging one after another, funds from individuals who bet on a downturn are at risk of becoming irrecoverable.
According to the Korea Exchange (KRX) on the 23rd, six securities firms, including Samsung Securities, Mirae Asset Securities, and KB Securities, disclosed advance notices about the potential occurrence of early liquidation grounds for their KOSPI and KOSDAQ inverse 2x ETNs. There are a total of nine products (three KOSPI and six KOSDAQ), and all are highly likely to fall under the condition for early liquidation in which the closing-price-based indicator value (the intrinsic value per one ETN security) is below 1,000 won, so investors were urged to exercise caution.
Unlike ETFs, which asset managers run in fund form, ETNs are closer to bond-type products in which securities firms guarantee payment of index returns. The decisive difference is that ETNs have maturities. Investors either exit through intraday trading or hold to maturity and are redeemed based on the final confirmed indicator value. The nine ETNs with advance notices on this day were all listed on Oct. 17, 2022, when concerns about a global recession were mounting, and about 1 year and 7 months remain until maturity.
Under exchange rules, early delisting proceeds if the underlying asset's price movements cause any of the following: ▲ at the end of regular trading, the real-time indicator value per security falls 80% or more from the previous closing price ▲ the closing-price-based indicator value is below 1,000 won ▲ other cases deemed necessary to protect investors.
The prices of the ETNs were around 3,500 won at the start of the year but had dropped by more than half to the 1,400–1,500 won range as of the 20th. Among them, the biggest decline this year (Jan. 2–Mar. 20) was the "Samsung Inverse 2X KOSPI200 Futures ETN," which plunged 59%. During this period, the KOSPI and KOSDAQ indexes rose 37% and 26%, respectively.
Starting in late January, when the market was surging, caution was flagged on inverse 2x ETN investments. Since this month, the market has moved in a box range amid the fallout from the Middle East war, but the related ETNs have continued to fall. The growing volatility appears to have accumulated the negative compounding effect.
As a leveraged product, an inverse 2x ETN can see invested capital decrease quickly if the index repeatedly rises and falls. For example, if the index rises 20% and then falls 20%, the inverse 2x ETN moves from an initial investment of 100 to "100→60→84," resulting in a 16% mark-to-market loss. The loss is much larger than that of a standard inverse product, which moves "100→80→96" for a 4% loss.
Even in this situation, some individual investors are continuing high-risk bets on double-inverse ETNs. Over about three months, individuals made a net purchase of 54.4 billion won across 12 related ETNs listed domestically. During this period, in the top 10 by net purchases, the "Samsung Inverse 2X KOSDAQ150 Futures ETN" (22.4 billion won, No. 6) and the "Samsung Inverse 2X KOSPI200 Futures ETN" (13.7 billion won, No. 9) made the list.
If the current trend continues, ETNs that have fallen to the low 1,000 won range are highly likely to be delisted. For investors who started at the beginning of the year, locking in a loss of about 70% appears inevitable.
The Financial Supervisory Service also urged investor caution. In a press release on the 18th, the Financial Supervisory Service (FSS) said, "Leveraged and inverse products can make it hard to keep composure when losses occur, increasing the risk of a vicious cycle in which investors instead raise their stakes and attempt even riskier investments."