(June 9): A leveraged exchange-traded fund tracking SK Hynix Inc deviated sharply from the underlying stock’s move for a second day, underscoring the risk of investing in such products that have attracted strong retail interest.
The KIM ACE SK Hynix Single Stock Leverage ETF, designed to deliver twice the chipmaker’s daily return, plunged 27% on Tuesday even as SK Hynix jumped 16%. The divergence followed Monday’s dislocation, when the ETF soared 50% despite the stock falling nearly 8%.
The back-to-back wrong-way moves have intensified scrutiny of the ETF manager Korea Investment Management Co, which said yesterday’s anomaly for the US$37 million product stemmed from a lack of liquidity. On Tuesday, the Korea Exchange identified three funds, including KIM ACE, as potential candidates for an investment warning due to a divergence in their net asset value and market prices.
“Such dislocations are rare but not unprecedented,” said Jung In Yun, CEO at Fibonacci Asset Management. “ETFs typically rely on market makers to keep prices aligned with underlying holdings. However, during the closing auction, those safeguards can weaken, particularly in niche products with limited trading volume.”
The KIM ACE SK Hynix is part of a wave of single-stock leveraged ETFs tied to chipmakers that were launched in Korea last month. Sixteen such products debuted on May 27 with combined assets of US$3 billion. Within a week, that figure swelled to US$5.5 billion, fuelled by fresh inflows and sharp gains in the underlying stocks, according to Bloomberg Intelligence data.
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The Korean leveraged ETFs follow the success of products like CSOP’s Hong Kong-listed SK Hynix leveraged fund.
These offer investors a chance to make outsized gains on indexes, stocks, bonds or commodities by using derivatives and swap contracts to bet on the underlying assets. They can also exacerbate swings in heavily traded names, as issuers often need to rapidly buy or sell assets to keep the funds aligned with their promised leverage ratios.
But the rapid growth of such ETFs is also raising questions about structural vulnerabilities.
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Unlike their Hong Kong-listed counterparts, Korean issuers handle rebalancing in-house, a feature that could amplify daily swings in the underlying stocks when multiple products move in the same direction, said Francis Oh, head of Asia business development at Rex Financial, which provides exchange-traded products.
Bid-ask spreads for the product widened before the market close on Monday, when liquidity providers weren’t obligated to be involved, Korea Investment Management said in a Monday text message. As a result, buy orders led to a sharp surge in prices, it added.
The company said it will take the incident as an opportunity to review the liquidity provider quoting system and “make every effort” to prevent any additional issues from occurring. Its factsheet lists five local brokerages including Mirae Asset Securities Co and Kiwoom Securities Co as authorised participants and liquidity providers.
The Monday anomaly came during a turbulent session for Korean equities. The benchmark Kospi tumbled nearly 9% intraday, triggering a 20-minute trading halt by the stock exchange shortly after market open, as investors pulled back from the artificial intelligence trade. Trading for the small-cap Kosdaq was also suspended in the afternoon.
Rebalancing flows tied to such products have already been blamed for intensifying volatility during recent bouts of sharp swings. They require a daily rebalancing, forcing the funds to buy into rallies and sell into declines, according to a note from Goldman Sachs Group Inc’s sales desk last month, which said such trades act as a volatility "accelerator".
ETF market makers are exempt from quoting obligations during the pre-open and post-close windows, which is why liquidity can effectively disappear during those periods, said Jun Gyun, a derivatives analyst at Samsung Securities Co.
“ETF liquidity providers simply can’t be on watch for everything, all the time,” he said. “So what happened was rare, but not impossible.”
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