Value context and insight. lkm@koreatimes.co.kr
'Haywire' ETN investment hits record in April
A worker passes a screen in Seoul displaying the crude oil price, April 20. Korea Times file
By Lee Kyung-min
By Lee Kyung-min
The monthly trading volume of leveraged crude oil exchange-traded notes (ETNs) skyrocketed 20-fold over the past four months, in what appears to be a market gone haywire driven by many investors seeking short-term, windfall gains following the steep oil price drop, data showed Sunday.
The data from the Korea Exchange (KRX) showed the market daily trading volume averaged 412.3 billion won ($336 million) in April, more than 20 times the 20.7 billion won in December. The April figure is the highest since November 2014, when the market opened.
The explosive demand in the derivative market was driven largely by ETNs tied to U.S. West Texas Intermediate (WTI), which reported a negative price for the first time, closing at minus $37.63 in New York, April 20 (local time), following sharp drops over the previous few months.
Buyers of the notes, a type of unsecured debt security that tracks an underlying index of securities, are seeking gains from the difference in the crude price between the current record low and a level they hope it will recover to.
The product is designed to pay buyers twice the difference between the purchase and selling prices.
Market sentiment shot up after oil prices tanked in February and continued to fall through March to a record low, dipping below $20 a barrel due to a feud between Saudi Arabia and Russia.
The prolonged conflict between two global oil powers, fueled by the fresh shock of declining oil demand brought on by the COVID-19 pandemic, further buoyed investor sentiment that the price would not recover any time soon, driving the ETN market trading volume to peak at 895 billion won April 6. Of the total, 96 percent, or 855.1 billion won, accounted for 14 crude oil-related products.
The continued spike in the trading volume came despite a warning from the financial authorities against possible massive investor losses that could be inferred from a liquidity shortage-triggered extremely high “disparate rate,” an industry term meaning the difference between the net worth of the product and the market value. This is measured by the difference divided by net worth times 100.
Liquidity providers including brokerages usually manage the rate below 6 percent.
But the rate soared to as high as 449 percent in April, a figure far more “preposterous” to market watchers compared to that of between 35.6 percent and 95.4 percent in March.
The Financial Supervisory Service (FSS) issued a series of warnings in late April, but this did little to keep investors away from the volatile products. The top 10 ETN products bought by retail individual investors saw an average loss of 36.78 percent in April, with the loss hitting as high as 79.67 percent.
“Investor profit will be determined by net worth, not market value,” KB Securities analyst Choi Ji-hoo said. “Those bought at a price higher than the net worth price are likely to see losses.”