What Are Single Stock ETFs?

A single stock ETF is an Exchange Traded Fund (ETF) designed to magnify the gains or losses of a single, underlying stock. This creates a risk profile that is inverse to a standard fund-based asset. Where ordinarily an ETF mitigates risk and reward through diversification, a single stock ETF significantly increases potential risks and rewards through concentration. For this reason, they are intended as speculative and short-term investments. Here’s what you need to know.

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What Is a Single Stock ETF?

A single stock ETF (SSE) is an exchange traded fund designed to track the performance of a single underlying stock. There are two versions of single stock ETFs: leveraged and inverse.

With a leveraged SSE, the fund uses derivatives to magnify the returns of the underlying stock. For example, say that you buy a leveraged SSE built around ABC Co. If ABC Co. goes up by 5%, the leveraged SSE might increase by 10%. On the other hand, if ABC Co. goes down by 5%, the leveraged SSE might post a 10% loss.

With an inverse SSE, the fund again uses derivatives to generate inverse returns to the underlying stock. For example, say that you buy an inverse SSE built, again, around ABC Co. If ABC Co. goes up by 5% the inverse SSE might deliver a 10% loss. If ABC Co. goes down by 5%, the inverse SSE might generate a 10% return.

Each fund sets its own multiples of returns and losses. For example, some may aim for a 1.5x return, others 2x. It’s based largely on the fund’s liquidity and appetite for risk management.

A single stock ETF does not have compounding returns. At the close of trading each day, the fund generates its returns or losses for investors and then resets based on the current price of the underlying asset. For example, say that ABC Co. increases from $10 per share to $12 per share by the close of trading. A leveraged SSE might return $4 per share to its investors at the end of the day, then it would reset based on ABC Co.’s $12 share price.

Pros and Cons of Single Stock ETFs

Single stock ETFs are leveraged ETFs where the overall performance is tied to the daily return of individual stocks.

Single stock ETFs are extremely speculative, short-term assets. These are day trading investments, given that they issue returns or losses at the end of each trading day. While you don’t have to sell an SSE at the end of each day, these aren’t intended for taking a long-term position. Generally the use case is to identify a stock that you think will move soon, place your investment, and cash out at the close of business.

Pros of SSE Investing

The biggest advantage to a single stock ETF is that it gives you the value of leveraged investing without active losses.

With leveraged SSEs, you can collect potentially outsized returns. If you think that a stock is going to do well, you can collect several times your original investment in returns. For example, you might invest in an SSE that delivers 3x returns, meaning that for every 1% the stock goes up, you will collect 3% in returns.

The same is true of inverse SSEs. These create an effective short-sale asset. If you think the stock will decline, you can invest and collect returns based on those losses. Depending on the structure of the fund, you might even collect multiple returns.

In both cases, historically to access this investment profile you would need to take a leveraged position. To magnify gains, you usually need to borrow money, exposing you to debt repayment if the stock doesn’t perform. To short sell, you need to borrow stocks, potentially exposing you to active losses if the stock goes up by too much.

Here, since you have purchased an ETF, your total exposure is the value of your original investment. You can lose your money, but you won’t owe anything beyond that.

For day traders, then, this creates a potentially useful high-velocity product. You can make a one-day investment built around potentially outsized returns while also knowing the exact scope of your risk.

Cons of SSE Investing

Single stock ETFs have two big downsides.

The first, and most important, is risk. An SSE is intended to magnify the performance of a single underlying asset. As a result, you are exposed to potentially compounding losses if your investment doesn’t perform.

This makes it very easy to lose your entire investment in a single day. For example, say that you buy a 2x leveraged SSE. The underlying stock, ABC Co., opens the day at $10, then loses $5 over the course of trading. If you owned the stock, you would still have $5. With the SSE, you’ve lost your entire investment. (Again, though, while continued losses would push the theoretical value of the fund negative, your losses are capped at $0.)

This also creates the second downside, which is that SSEs tend to be very expensive. To run this portfolio, a fund needs to have high cash reserves. This is a requirement to maintain its index exposure. Basically, rebalancing the underlying assets each day costs money and it needs to have the cash on hand in case that money doesn’t come from returns.

This makes for much higher than average fees. According to Morningstar, fees for an SSE are nearly three times higher than for a standard ETF.

Because of this combination of risk and cost, most analysts recommend that individual investors should stay away from single stock ETFs. However, if you do invest, make sure to do so only with the speculation segment of your portfolio. Invest money that you can afford to lose, so that you can celebrate a win without suffering in the event of a loss.

Bottom Line

Investors tracking the performance of a single stock ETF.

A single stock ETF is a fund-based investment that tracks a single stock. These are designed to magnify the returns and losses of their underlying investment, making for potentially high rewards and equally high risks.

ETF Investing Tips

Many Americans invest in diversified ETFs for retirement. Here’s how you can use them in your own 401(k).
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