Synopsis
This book provides an analysis,under both discrete-time and continuous-time frameworks, on the price dynamicsof leveraged exchange-traded funds (LETFs), with emphasis on the roles ofleverage ratio, realized volatility, investment horizon, and tracking errors. This study provides new insights on the risks associated with LETFs. It alsoleads to the discussion of new risk management concepts, such as admissibleleverage ratios and admissible risk horizon, as well as the mathematical andempirical analyses of several trading strategies, including static portfolios,pairs trading, and stop-loss strategies involving ETFs and LETFs. The finalpart of the book addresses the pricing of options written on LETFs. Sincedifferent LETFs are designed to track the same reference index, these funds andtheir associated options share very similar sources of randomness. The authorsprovide a no-arbitrage pricing approach that consistently value options onLETFs with different leverage ratios with stochastic volatility and jumps inthe reference index. Their results are useful for market making of theseoptions, and for identifying price discrepancies across the LETF optionsmarkets. As the market of leveraged exchange-traded products become a sizeableconnected part of the financial market, it is crucial to better understand itsfeedback effect and broader market impact. This is important not only forindividual and institutional investors, but also for regulators.
