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  • Writer's pictureRadz Je CFP®

Geared Funds: Unlocking the Potential of Financial Leverage

Introduction


Geared funds are investment vehicles that aim to amplify the returns of an underlying index or set of assets through the use of financial derivatives or borrowing. These funds are often highly attractive to investors looking for higher returns in a short period. However, as with all high-reward strategies, they come with their own set of risks. This blog aims to explore the importance of geared funds, breaking down their benefits, drawbacks, and who they might be most suitable for.


What Are Geared Funds?


Geared funds are essentially mutual funds or exchange-traded funds (ETFs) that use financial leverage to amplify the returns (or losses) of an underlying benchmark. They may achieve this by using options, futures contracts, margin accounts, or other financial instruments.


There are two primary types of geared funds: leveraged and inverse funds. Leveraged funds aim to produce returns that are a multiple (e.g., 2x, 3x) of a specific benchmark. Inverse funds, on the other hand, seek to produce returns that are the opposite of the benchmark.


The Benefits


Potential for High Returns


The most obvious benefit of using geared funds is the potential for high returns. When the market is moving in the direction that the fund aims to capture, the amplified returns can be substantial.


Diversification


Geared funds allow investors to diversify across sectors, industries, or even countries, often without having to buy each individual stock or bond. This can reduce portfolio volatility and boost long-term returns.


Hedging


Inverse geared funds can be used to hedge against downside risk in a portfolio. If you believe that a particular sector or the entire market is about to experience a downturn, inverse funds can help offset losses in other investments.


The Risks


Amplified Losses


While geared funds can provide substantial gains, they can also result in significant losses. If the market moves against the position the fund has taken, investors can lose a sizable portion of their investment.



Complexity


Understanding the mechanics of how geared funds work is essential. These funds often employ complex financial instruments that can be confusing for average investors.


Cost


The use of financial derivatives and frequent trading often result in higher fees compared to conventional mutual funds or ETFs.


Who Should Use Geared Funds?


1. Experienced Investors: Given their complexity and risk, geared funds are best suited for those with a deep understanding of the markets and risk management strategies.

2. Short-Term Traders: Geared funds are generally not designed to be held long-term. They are better suited for investors looking to capitalise on short-term market movements.


3. Risk-Takers: If you have a high-risk tolerance and are seeking higher returns, geared funds might be an attractive option.


Conclusion


Geared funds offer an opportunity for potentially high returns and diversification, but they also come with substantial risks and costs. Understanding your investment objectives, risk tolerance, and the intricacies of these financial instruments is crucial before diving in.


Before investing in geared funds, it's advisable to consult with a financial advisor to ensure that they align with your overall investment strategy. With the right approach and understanding, geared funds can be a valuable addition to a diversified portfolio.



Advice Warnings & Disclaimers.


This information is intended to provide general information only and has been prepared without considering any particular person’s objectives, financial situation or needs. Any general advice contained within or given during this presentation (whether orally or in writing) does not consider your objectives, financial situation or needs. Nothing in this presentation is intended to be investment, financial advice or a recommendation to invest in a financial product. Before acting on such information, you should consider the appropriateness of the information having regard to your personal objectives, financial situation or needs. To the maximum extent permitted by law, we (Forward Path Advisory Pty Ltd), Joel Cleary & Rathakrishna Jeyabalasingam (Radz Je) disclaim all liability and responsibility for any direct or indirect loss or damage which may be suffered as a result of relying on anything in this blog, including any forward-looking statements. Past performance is not an indication of future performance. In particular, you should obtain professional advice before acting on the information contained in this presentation.


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