SEC Blocks Highly Leveraged ETFs: 5x Crypto Funds Not Allowed

The U.S. Securities and Exchange Commission (SEC) has officially halted the introduction of super-leveraged exchange-traded funds (ETFs) that aim to deliver three to five times the daily performance of various stocks and cryptocurrencies. The regulatory body issued warnings to several major ETF providers, indicating that these funds exceed permissible risk exposure limits.

Key Takeaways

The SEC has blocked the development of leveraged ETFs that promise 3x to 5x returns on assets like Bitcoin and Ether.
Major ETF providers received warning letters, advising them to modify their proposals or withdraw them due to regulatory concerns.
Previous approvals for other ETF types signal a changing landscape in regulatory attitudes towards cryptocurrency funds.
Retail traders are increasingly drawn to leveraged ETFs, but some have also faced considerable losses.

SEC pulls plug on super-leveraged ETFs—5x crypto not allowed - 1

SEC's Regulatory Action on Leveraged ETFs

The U.S. Securities and Exchange Commission (SEC) has taken action to prevent the launch of exchange-traded funds (ETFs) that are highly leveraged, aimed at providing three to five times the daily performance of certain stocks and cryptocurrencies. The agency has sent out nine warning letters to prominent ETF providers, which include Direxion, ProShares, and Tidal Financial. In these letters, the SEC declared that it would not proceed with reviewing any filings unless the companies addressed pertinent regulatory issues related to Rule 18f-4 under the Investment Company Act of 1940.

This rule restricts a fund's value-at-risk exposure to 200% of its reference benchmark. According to regulatory documents made public on December 2, it seems that several proposed funds may surpass this risk threshold. The proposed funds intended to utilize derivatives to amplify daily returns on highly volatile assets, such as Bitcoin, Ether, Nvidia, and Tesla, providing exposure of up to five times the daily price movement. It’s important to note that no 5x ETFs linked to single stocks or cryptocurrencies have received approval in the U.S., and 3x products have faced strict regulatory scrutiny.

In response to the SEC's warnings, issuers have been directed to either amend their strategies to comply with legal requirements or withdraw their applications. ProShares was quick to act, retracting several of its 3x and crypto-related ETF applications shortly after the letters were issued.

This recent action indicates a notable shift from a previously lenient stance towards ETF approvals. In the past year, the SEC has been more open, granting approval for spot Bitcoin and Ethereum ETFs, as well as crypto yield products and structured investment funds that blend options income, partial leverage, and downside protection.

Recent ETF Applications Push Regulatory Limits

Recently, various ETF providers have sought to test the boundaries of regulations further. For example, 21Shares has applied for a leveraged fund linked to the Hyperliquid token, while Volatility Shares has submitted proposals for the first 5x leveraged ETFs associated with both stocks and cryptocurrencies.

Leveraged ETFs have seen a surge in interest from retail traders. The ProShares UltraPro QQQ, designed to achieve three times the daily return of the Nasdaq 100, has accumulated significant assets and has seen growth this year, reflected in fund data.

However, not all leveraged products have performed well; some have incurred notable losses. For instance, both the Defiance Daily Target 2x Long MicroStrategy ETF and a 2x fund associated with Super Micro have experienced steep declines this year, as highlighted by market data.