ProShares UltraShort QQQ: Hedging a Tech-Heavy Portfolio

How many of your dollars actually move with the Nasdaq-100? A portfolio can hold no index fund at all and still rise and fall with the index on most days, if its money sits in the large technology companies that carry the most weight in it, and a portfolio that looks tech-heavy can turn out to hold stocks the index barely touches. QID is ProShares UltraShort QQQ, which targets -2x the Nasdaq-100’s move for one day, and it only offsets the part of your account that behaves like that index.

Steps to hedge with QID

1. List every holding and mark the ones that move with the Nasdaq-100. Index funds on it count in full. Large members of the index count too, scaled up or down by how much more or less they move than the index.
2. Add up the index-equivalent dollars. That figure is the exposure you are hedging.
3. Choose a hedge ratio. Half the exposure softens a decline and leaves room for a rally. The whole of it offsets most daily moves.
4. Divide the dollars to hedge by 2. That is the QID position.
5. Set a rebalance band and a review date before you buy.
6. Check the hedge ratio at each close, and resize when it leaves the band.
7. Lift the hedge when the event passes, the date arrives or the portfolio changes.

Steps 1 and 2: how much of the portfolio moves with the index?

Take a hypothetical $200,000 account. It holds $90,000 in a Nasdaq-100 index fund, $50,000 in large technology stocks that are members of the index, $40,000 in a bond fund and cash, and the last $20,000 in utility and consumer staples stocks that pay dividends.

The index fund moves one-for-one with the index. Suppose a look at your own price history suggests the tech stocks move about 1.2 times the index on a typical day, a multiplier used here as an assumption for the sum, which will differ for your holdings. Treat the bonds, cash and dividend stocks as zero. That understates the exposure a little. Dividend stocks still move with the broad market.

Steps 3 and 4: size the -2x hedge

Hedge half. That means $75,000 of short exposure to the Nasdaq-100.

A -1x fund such as PSQ would need the full $75,000. QID carries $2 of daily exposure for each dollar invested, so it needs half as much.

The account’s bond and cash sleeve holds $40,000, enough for the QID position and nowhere near enough for $75,000 of PSQ, so the -2x fund lets the hedge go on without selling any of the stocks. A full hedge would take $75,000 in QID. If you are weighing SQQQ for the job, QID against SQQQ sets out what the extra multiple does to a position held for more than a day.

Steps 5 and 6: monitor the hedge and rebalance it

A hedge that starts at 50% drifts from the first close. Each day QID’s value changes twice as fast as the index, in the opposite direction, while the stocks drift with the index, and the ratio between them moves on every close.

Set a band before you buy. Here, rebalance whenever the ratio leaves 45% to 55%. Pick a band that matches how closely you can watch.

The exposure figures are approximate, since the tech stocks were assumed to move 1.2 times the index and their weight shifts as prices change, so re-run step 2 on actual values at each review.

A choppy week moves the ratio too. When the index swings back and forth and ends where it began, QID ends lower, because each day’s percentage applies to a new base, and your hedge shrinks with no single large day to warn you. Run a sample path through the leveraged ETF decay calculator to see how far. On days when the Nasdaq-100’s average true range is large as a share of its price, check the ratio at every close.

Step 7: decide when to lift the hedge

Lift it when the reason for it is gone. Write the reason down on the day you buy.

• An event hedge comes off once the event has passed, such as earnings from the largest index members or a Federal Reserve meeting.
• A review date you set in advance arrives. Decide then whether to renew the hedge or end it.
• The portfolio changes. Sell some tech stock and the step 2 exposure falls. Shrink the hedge with it.
• The index has fallen and the hedge has done its work. Selling QID then locks in the gain that offset part of your losses, and holding it from there turns the hedge into a fresh bet that the index keeps falling, with the daily reset working against you if it chops.

If you keep wanting the hedge for months, own less of the index. Another route for stocks you hold is a covered call, which collects premium against the shares and cushions a small decline at the cost of capping gains above the strike. In a taxable account, a QID sale held a year or less produces a short-term gain or loss. Situations differ.

The mistake: hedging stocks that do not track the index

QID hedges the Nasdaq-100 and nothing else. Its holdings are swaps on the index and index futures, so it pays off when the index falls, whatever your own stocks do.

Take a $50,000 position in one software company outside the index. It reports, the stock drops 20%, and the Nasdaq-100 rises 1% the same day. A $25,000 QID hedge sized against that stock loses 2%.

The hedge added to the loss. Smaller tech companies outside the index, banks and other financial companies (which the index leaves out) and any stock with its own news ahead all share the problem. Concentration cuts the other way too. If most of your tech money sits in the biggest index members, the hedge fits better, and the Mag 7 case study shows how much of a portfolio those few names can take up.

For hedges on other indexes, from small caps to long Treasuries, the inverse ETF list groups each bear fund by benchmark and multiple.