Morgan Stanley Smith Barney restricts leveraged ETFs

Thomas Coyle

7 August 2009

New sales policy governs leveraged, inverse and leveraged inverse ETFs. Morgan Stanley Smith Barney , the two-month old combination of Citigroup's retail-brokerage Smith Barney and the private-client business of investment bank Morgan Stanley have decided to bar its brokers from selling leveraged, inverse, and leveraged-inverse ETFs.

"Unsolicited purchases" of such accounts will be "subject to enhanced oversight and review," MSSB says.

In addition, no purchases of these securities will be permitted in advisory accounts managed by MSSB, and brokers are being asked to review existing positions in these securities with clients to emphasize "their unique characteristics and risks," according to MSSB.

High maintenance ETFs, which track market indices, can use leverage to amplify the daily returns of a particular index. An inverse ETF uses derivatives to move in the opposite direction of a given index so that investors can, for example, can make money when markets drop.

Last week, UBSUBS' U.S. retail brokerage said it would stop selling leveraged ETFs, saying the investments are harmful to long-term investing.

Reports tied UBS's suspension of leveraged ETFs to FINRA's pronouncement last week that such investment vehicles are not suited to retail investors who plan to hold them for more than a day.

" such products may be useful in some sophisticated trading strategies, they are highly complex financial instruments that are typically designed to achieve their stated objectives on a daily basis," FINRA says in its Regulatory Notice 09-31. "Due to the effects of compounding, their performance over longer periods of time can differ significantly from their stated daily objective. Therefore, inverse and leveraged ETFs that are reset daily typically are unsuitable for retail investors who plan to hold them for longer than one trading session, particularly in volatile markets." Citi exchanged Smith Barney in the U.S., Smith Barney Australia and its U.K.-based Quilter units for 49% of MSSB and a cash payment of $2.7 billion. Morgan Stanley exchanged its Global Wealth Management business for 51% of MSSB. MSSB has about 20,000 brokers. -FWR

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