by Todd Shriber

There are plenty of wild ideas for stock indexes out there, but this one may take the cake: The Dow Jones Summer/Winter Games Index. Yes, that’s right. An index has been formed to track companies that are corporate sponsors of the upcoming 2012 Summer Olympics in London and the 2014 Winter Olympics in Russia.

Believe it or not, this index has been around for a while. Dow Jones says it was initially calculated on Dec. 6, 2007. And until Tuesday, the Dow Jones Summer/Winter Games Index was home to 37 stocks, seven more than are found in the Dow Jones Industrial Average.

Prepare to welcome Olympic index member 38: General Mills (GIS), the second-largest U.S. food company. Big G’s Nature Valley brand will be the official cereal snack bar supplier to the London games, Dow Jones said in a statement. Dow Jones said the index is reviewed quarterly and General Mills was added as part of the September. No members were deleted.

With a median market value of $14.6 billion, the Olympic index isn’t home to a bunch of no-name companies. In fact, six Dow components are found among the index’s top holdings. Those are Coca-Cola (KO), Procter & Gamble (PG), General Electric (GE), McDonald’s (MCD), Cisco (CSCO) and General Mills rival Kraft (KFT).

Since indexes aren’t securities that can be purchased, perhaps the biggest question surrounding the Dow Jones Summer/Winter Games Index isn’t why it even exists, but why hasn’t an ETF been created to track it? After all, ETF issuers love the obscure.

*Disclosure: Writer is long General Mills.

by Todd Shriber

Market volatility increased last month, so say the fine folks at the Securities and Exchange Commission, and now the government agency is looking for answers why.

More specifically, the SEC is evaluating whether leveraged, inverse and leveraged-inverse exchange-traded funds were behind some of the gut-wrenching moves seen last month, according to The Wall Street Journal.

Leveraged ETFs come in both the double and triple variety, meaning traders can earn double or triple the daily percentage performance of a particular index. Obviously, the inverse funds deliver double or triple the daily inverse performance of those indexes.

Leveraged ETFs are frequently used by professional traders. But they have also become popular with the retail crowd, and that may be what has the SEC worried, the article said. For its part, the SEC has long warned investors about the risks of these juiced-up ETFs. In fact, there’s an entire section of the SEC’s website devoted to this sub-sector of the ETF universe.

Despite the warnings and the criticism, leveraged ETFs remain popular. At the end of August, ProShares and Direxion, the two largest U.S. issuers of inverse and leveraged ETFs, sponsored a combined 173 funds. The bulk of these funds are leveraged and/or inverse, and had about $33 billion in assets under management combined, according to data from the National Stock Exchange.

Whatever the issue, the SEC may just be looking to “open a dialogue” regarding exotic investments, the Journal reports. That’s nice. Dialogue regarding the fact that leveraged ETFs are daily instruments is provided by Direxion and ProShares.

by Paul Springer

The breathtaking speed of high-frequency trading may hit a speed bump in the form of securities regulation, a process known for moving at a much slower pace.

While the markets have remained orderly despite extreme volatility in August, people are wondering if HFT is really the boon to liquidity that it’s adherents claim.

In the U.S., the Finanical Industry Regulatory Authority is taking a granular look at some trading strategies, and not just the general nature of the trading. The regulator wants to look at specific algorithms.

Reuters says that both FINRA and the Securities and Exchange Commission are looking at HFT:

According to interviews with attorneys, traders, industry executives and regulators, the unusual requests for algo code and other computerized trading strategies really ramped up this year and have targeted stock-trading firms such as broker dealers and hedge funds.

Proprietary codes are at the heart of HFT – as is keeping them secret. In the last year, at least two people were sued for taking code with them to new employers. And now traders are not pleased with the idea that regulators could latch on to valuable algos.

One source told Reuters that the SEC’s revolving-door policy could allow secret codes to fall into the wrong hands:

“I’d be disappointed and upset” if they asked for code, said a high-frequency trading firm executive who declined to be named. “I mean, are these people all going to work at the SEC forever?”

It’s not clear who is being examined at this point. The Financial Times reports a somewhat hazy account from FINRA:

Tom Gira, executive vice-president of Finra’s market regulation unit, told FT Trading Room that requests for information were usually in response to complaints from market participants. “We’re doing it because there is a reason,” he said. “We run a lot of surveillance platforms and we get complaints too. We have some active investigations right now.”

Bloomberg got hold of a document that indicates the European Union is also contemplating enhanced scrutiny:

The requirements will include safeguards to prevent high-frequency trades from “overloading the systems of trading venues,” generating “erroneous orders” or “otherwise malfunctioning” in a way that may create a disorderly market, according to the document.

In the U.K., the Financial Services Authority has frozen one trading group’s assets as part of an investigation of spoofing, or placing fake orders to manipulate markets, The Independent says. While spoof orders are pulled before they can execute, placement of the orders distorts pricing to the advantage of unscrupulous traders.

That particular enforcement may not have involved HFT – anybody can spoof – but the FSA did censure another firm the day before. This time there were a lot of trades, and the regulator alleges that Swift Trade improperly layered (spoofed) trades and changed its trading activities to avoid detection.

Swift also allegedly used Direct Market Access to manipulate markets. Swift, however, was not swift enough to avoid a £8 million ($13 million) fine for the trades, which took place in 2007 and the first few days of 2008.

Swift is challenging the FSA’s decision.

by Todd Shriber

Exchange-traded funds are way cooler than mutual funds. At least that’s the sentiment that can be inferred from some recent research published by Cerulli Associates Inc. and the Investment Company Institute (ICI).

As ETFdb.com notes, financial advisers have been slow to warm to ETFs, but the aforementioned research indicates financial advisers may want to change their tune.

The demographics speak for themselves. The Cerulli Associates/ICI research points out that ETF investors are younger, wealthier and better educated than folks that invest in mutual funds, InvestmentNews reports. On top of all that, one source quoted by InvestmentNews says that ETF investors tend to be more “engaged” than their mutual fund counterparts.

The statistics are arguably startling. ICI’s research shows that the median household income of mutual fund investors is $80,000, compared with $130,000 for ETF investors. And the median total of household financial assets for ETF investors is $300,000 compared to $200,000 for mutual fund investors, a gap of 50%, according to InvestmentNews.

Still, the exchange-traded products industry has a long way to go to catch mutual funds when it comes to assets under management. At the end of July, all U.S.-listed exchange-traded products had combined assets under management of over $1.1 trillion, according to data from the National Stock Exchange. At the end of 2010, U.S. mutual funds had $11.8 trillion in assets under management, ICI data show.

Those numbers don’t mean mutual fund issuers can rest on their laurels. In fact, they can’t afford to because U.S. ETF assets are expected to double before the end of 2015, the Financial Times reports. Those assets will have to come from somewhere, and very likely they will come from investors departing mutual funds.

It’s never a good idea to lie to investors about what your hedge fund does and where their capital will be going, but it’s an especially poor idea to fib to investors when they’re still in the “prospective” stage and the hedge fund in question is considered a start-up. That’s the lesson being learned the hard way by Belal K. Faruki and his firm, Neural Markets LLC.

With the fund still in its nascent stages, Faruki has already gained the attention of the Securities and Exchange Commission (SEC) for trying put one over on prospective clients: “The Securities and Exchange Commission today announced an asset freeze against a Chicago-area money manager and his hedge fund advisory firm that the SEC charged with lying to prospective investors in their startup quantitative hedge fund. A federal court today entered a preliminary injunction order in the case, which was unsealed earlier this week,” according to a statement issued by the  SEC.

At least one investor was allegedly duped out of $1 million by Faruki and Neural Markets, with others close to finding themselves in a similar plight before the SEC stopped the fraud from going any further, the statement said.

On the fund’s LinkedIn page, it says it specializes in trading forex, futures and equities, but Faruki was supposedly touting a complex algorithmic trading strategy using highly liquid exchange traded funds (ETFs) to prospective investors, the SEC said its statement.

Faruki and the hedge fund allegedly falsely represented the existence of investor capital and that trading was generating profits when, in fact, losses were being tallied and all of that was going on when the fund actually had no investors, according to The Wall Street Journal.

No word yet on whether Faruki could face jail time, though his LinkedIn page is chock full of goodies, so there may not be room to add “prisoner” to the list of accomplishments.

by Todd Shriber

July was a slow month on the new exchange-traded products front with just 12 new funds coming to market, according to Ron Rowland on Seeking Alpha. Since March, more than 160 new exchange-traded funds and exchange-traded notes have come to market.

While July may have been slow in terms of ETF and ETN introductions, there was no shortage of filings for new funds, some of which look pretty exciting. It’s important to remember that filings with the Securities and Exchange Commission for new ETFs are no guarantee that the funds will ever come to market, but here’s to hoping these 10 do. In no particular order:

1) WisdomTree Germany Hedged Equity Fund

This fund will be aimed at giving investors access to Germany’s exports while protecting them from downside moves in the euro, according to IndexUniverse. A novel idea, but WisdomTree has struggled to attract assets with a similar ETF tracking Japan.

2) Market Vectors Mongolia ETF

Van Eck Global’s Market Vectors ETF business has already taken investors to some exotic destinations with various emerging-markets ETFs, but Mongolia might top the list. The firm filed plans for the ETF in May, according to ETFdb, and this one appears to be as much a commodities/materials play as it is an emerging-markets trade.

3) Market Vectors Dim Sum Bond ETF

This is another Market Vectors offering. We could say we’re looking forward to this one because Market Vectors has proven adept with emerging market bonds funds denominated in local currencies. And the idea of an ETF with Dim Sum in the title is, well, tasty.

4) Global X Social Media ETF

As Trader Daily noted late last month, it’s a relief to know companies like Facebook will have an ETF to call home when they finally go public.

5) Global X FTSE 20 Greece ETF

Assuming this one comes to market sometime soon, the timing may be tricky. But as Benzinga noted, short sellers may be chomping at the bit to get their hands on this one.

6) Nigeria ETF

Both Market Vectors and Global X have filed plans for an ETF tracking this OPEC member. Whoever wins the race will be the first to market a Nigeria-specific ETF.

7) PowerShares CSI Fundamental Greater China Portfolio

China is the most represented of the BRIC (Brazil, Russia, India and China) quartet in the ETF universe. But PowerShares has filed plans for an ETF that looks like it could track 200 Hong Kong-listed and 100 Taiwanese stocks, according to IndexUniverse.

8) Direxion India Sector ETFs

Direxion is best known for its leveraged ETFs, but the firm is planning major non-leveraged foray focusing on the “I” in BRIC, India.

9) Global X FTSE Railroads ETF

Not only is Global X prolific at introducing new ETFs, it has also filed plans for nearly 30 new funds in the past couple of weeks. Among them is the first ETF specifically devoted to railroad operators.

10) IQ Indonesia Small Cap ETF

Index IQ has carved out a niche for itself with ETFs that replicate hedge-fund strategies and small-cap, emerging-markets ETFs. But the IQ Indonesia ETF, which will trade on the New York Stock Exchange under the ticker INNN, is one to watch given the recent success of Indonesia-specific, large-cap ETFs.

by Todd Shriber

With all the fervor surrounding recent initial public offerings (IPOs) from the likes of LinkedIn and Yandex, and the breathless anticipation with which investment banks and traders alike are waiting for IPOs from Facebook, Groupon, Twitter and Zynga, it was only a matter of time before an ETF issuer jumped on the proverbial bandwagon.

That issuer is Global X. In a filing with the Securities and Exchange Commission last week, Global X announced plans for the Global X Social Media ETF, which will track the Solactive Social Media Index and will invest in companies involved in the social media industry, including those that provide social networking, file sharing and other web-based media applications.

Before getting too excited, it pays to remember a few things about new ETFs. First, a filing for plans for a new fund doesn’t mean that the fund in question will ever come to market. Second, even when a new ETF does debut, it is rarely to the same degree of hype reserved for hot IPOs. And as it pertains to the Global X Social Media ETF, if the ETF were to come to market before the IPOs for the aforementioned (and still private) companies, pickings for constituents could be somewhat slim.

Given the lofty heights of the social media craze, it seems reasonable to expect the Global X Social Media ETF will see the light of day at some point. Moreover, as noted by IndexUniverse.com, similar niche tech fare has done well in terms of attracting assets in the ETF universe. Either way, it might be a relief to some to know that Facebook, Groupon and the like could have at least one ETF to call home someday.

by Paul Springer

In the year preceding the dotcom bust in 2000, craven greed for hot IPO shares elevated begging to an art. News of oversubscribed offerings got around fast, and it wasn’t just the individual investor who was out there paying relationship baksheesh to get on a friends & family list or cozen ten shares out of a broker.

For some hedge funds and people with serious wealth, getting in on hot internet IPOs was a mark of status. It signaled a connection to the amazing free money machine created by Wall Street, Silicon Valley, and a lot of people who should have known better.

For those waxing nostalgic about those days, UBS is offering a pair of IPO-based exchange traded notes (ETNs).

The vehicles track UBS’s proprietary Internet IPO Index. “The Index provides exposure specifically to those Internet companies that have been publicly traded for less than three years,” UBS says. The IPO notes come in regular (EIPO) and double-leveraged (EIPL) flavors.

The index rebalances once a month to maintain 15 constituents. Additions to the index normally need to meet five basic eligibility criteria: Listing on the NYSE or NASDAQ; Appropriate industry designation; IPO date within the previous three years; Capitalization ranging from $200 million (U.S.) to $1 billion (foreign); and Trading volume of at least 100,000 per day.

Investors would do well to take note of prospectus provisions for what happens if there are not 15 such eligible companies in existence at rebalancing time. In that event, criteria for IPO date, capitalization and volume are all relaxed.

These are clearly dangerous investments, and the scenario for eligibility relaxation suggests that in the event that the hot IPO market chokes, the index will start opening its doors to companies that might not be so hot.

Another reality of these vehicles is timing of index inclusion. The five-day volume requirement means stocks will not go into the index for at least five days after an IPO, and possibly a good deal longer depending on the jump between an IPO date and the monthly rebalancing.

That means investors in these ETNs will not get a bite of the insane first-day gains of pre-bust IPOs. At the same time, the index is spared the indignity of high watermarks from first day trading that are likely to be followed by lower prices that drag the index down.

Because the early days of trading won’t go into the internet index, the index will likely correlate with NASDAQ or existing tech indexes, which will probably offer better liquidity and less likelihood of becoming “ghost town” ETFs like some of those put together around early internet offerings back in the day.

And this is a complicated product, whose structural and credit risks take up many pages of the prospectus. Even good news can be bad news:

Even if the index valuation level . . . has increased relative to the index closing level at the time your purchased the securities, or the applicable index valuation level is greater than the index closing level on the initial trade date, you may receive less than your initial investment in the securities.

As of the prospectus date, the four biggest index constituents, representing 10% each, are LinkedIn, HomeAway, Yandex, and Rackspace Hosting. Don’t look for Facebook – it has not set an IPO date.

The UBS IPO notes are not for everyone, and in fact they might be a sign that the end is near. The Motley Fool opines:

There are only so many times in your life that you literally fall out of your chair in reaction to the sheer lunacy of what you’re reading. You’re left to wonder if the words in front of you are some kind of elaborate prank from the folks at The Onion, or if the world has just gone crazy.

In all likelihood, many investors in these units will be naïve retail players arriving very late at the ball. They will be crushed.

However, these notes could serve a good purpose as short-term tactical investments that are a small part of a much broader portfolio. They will provide early entry into new web-based businesses, some of which may go on to become the next Amazon.com, and could return profits far in excess of the broader market. Yet as with any instrument offering high potential, the risks are equally large: any number of changes in the IPO market and the broader economy could argue for dumping these funds almost immediately.

For those who buy these things as a concentrated long-term “don’t think about it approach,” the screenplay may end up being called “Dot.com Bust II: Deja Vu.”

by Paul Springer

There’s always something new and amazing (and sometimes terrifying) in the world of hedge funds, and this week was no different. As usual, the news saw a battle between performance and personality.

In the personality department, former hedge-fund manager Vincent P. McCrudden is trying to put a happy face on death threats he made to 47 regulators and former officials, including the heads of the Securities and Exchange Commission and the Commodity Futures Trading Commission. Bloomberg reports:

A former hedge-fund manager set to be tried next week on charges he threatened to kill regulators wants to show the jury that his statements were part of a public dialogue about the corruption of the financial system, an argument a judge could bar in a ruling today.

Let’s all remember that the next time we have Federal Express deliver a horse’s head to somebody’s bedroom.

In legal news, Reuters says the global financial crisis is still casting a long shadow in London, where F&C Asset Management is sitting on $22 million in legal bills after losing a dispute with two managers who were trying to force the exercise of a put option requiring F&C to buy back a chunk of a joint venture that imploded when credit bottomed out. F&C was trying to expand from listed-fund management into hedge funds:

The case illustrates some of the pitfalls of mainstream fund managers trying to move into the more lucrative hedge fund market, and the difficulties of unwinding such bull market ventures when conditions change.

In Hong Kong, regulators got clawed by New York-based Tiger Asia Management, which stands accused of insider trading. FINalternatives reports that Hong Kong’s Securities and Futures Commission has failed to obtain an asset freeze or trade.

Those stoppage’s won’t be ordered by Hong Kong’s High Court until the SFC makes more progress on its civil insider-trading case, which exposes a limitation that the SEC and Department of Justice do not have:

The SFC last month, after Harris’ first ruling, opened civil proceedings against Tiger and the three executives, including Hwang, in Hong Kong’s Market Misconduct Tribunal. The regulator had been loathe to do so, as the proceedings immunize the hedge fund and its executives from criminal prosecution.

Asia also held some surprises for Anthony Bolton’s U.K.-listed Fidelity China Special Situations fund. Bolton joins the list of savvy traders and managers who got scorched in dealings with fraudulent China-based companies, The Independent reports:

Fidelity confirmed yesterday that Mr Bolton had liquidated holdings in several Chinese reverse merger stocks at a loss, including in two companies accused of fraud… China Integrated Energy, one of the firms, lost 90 per cent of its market value this year after being accused of fraud by short-sellers.

The other company remains nameless.

Hedge-fund innovation is also in the news according to AllAboutAlpha, which reviews and links a CREATE-Research report called Investment Innovations: Raising the Bar. CREATE has retreated somewhat from a position where it questioned the very existence of alpha, or excess returns. But the news is not all positive:

The bad news is that it paints a rather dismissive picture of some of the concepts that many in the alternative investment space live and breathe by: portable alpha, the use of leverage, structured products and shorting, to name a few.

Respondents found the most utility in emerging market stocks – and the least in leverage.

For those seeking to shadow hedge-fund performance without paying huge fees, another alternative is being created in the world of exchange-traded funds, where the IQ Hedge Multi-Strategy Tracker ETF (QAI) pioneered hedge replication.

Now, ProShares has announced the launch of the ProShares Hedge Replication ETF (HDG). HDG’s benchmark is based on Merrill Lynch’s recognized hedge-fund replication model, the Merrill Lynch Factor Model – Exchange Series (MLFM-ES).

“The MLFM-ES aims to achieve its goal through long or short exposures to six market factors. The exposures are arrived at through regression analysis of index return data,” ProShares says.

by Paul Springer

Commodity trading and commodity vehicles like exchange-traded funds and managed futures have seen a stampede of new capital in the last year. But fickle markets and regulatory trends indicate that commodities still aren’t for everyone.

Part of the problem involves the connection between speculation and rising commodities prices that hurt consumers — and often those in the world’s poorest countries.

In the U.S., oil speculation has been fingered as the cause of pain at the pump, and this piece in The Arizona Republic piece crystallizes the anti-speculation thesis:

“The markets are supposed to be based on supply and demand,” said Randall Werner, owner of Advanced Commodity Trading in Scottsdale. “But once they get into a frenzy and into the media, you always have these bandwagon speculators that want to jump on late. That pushes the prices up even higher.”

Now France’s President Nicolas Sarkozy is demanding more control of commodity trading.

Sarkozy just told people at a conference that the rising level of raw material prices is one of the “chief dangers threatening growth,” according to a Financial Times story.

Sarkozy is seeking limits on speculation and measures to dampen volatility, all of which will face resistance from those who actually make their living trading commodities.

In the U.S., Dodd-Frank and other legislation is also likely to cramp commodity trading. Although Reuters reports that when it comes to swap regulation, new Commodity Futures Trading Commission regulations will at least initially exempt dealings where the underlying assets are metals, energy and financial instruments.

Commodity markets are notoriously volatile in the best of times, and recent slowdowns in metals and precious metals have left some investors holding the bag. Even Glencore, the giant Swiss miner and commodity trader, has been wallowing since its initial public offering. In The Wall Street Journal’s terms:

Glencore International’s first quarterly results as a public company have confirmed several important trends, most notably its capacity to disappoint. The Swiss commodities giant’s shares have languished below their IPO price since its much-heralded $59 billion flotation in May.

And while individuals now have greater access to commodity trading through mutual funds and ETFs, it’s still not cheap. Bloomberg looks at the fee structure of mutual fund Altegris Futures Strategy Fund:

Investors in the fund lost 6 percent this year, and plummeting gold, silver and oil prices weren’t the only reason. The losses also reflect fees of as much as 2 percent of assets paid to the underlying traders in addition to the fund’s 2 percent management fee and 5.75 percent in upfront charges. If the fund had made a profit, as much as 35 percent of that would also have gone to the underlying managers.

Bloomberg finds a similar story behind other funds, where fees hit investors hard no matter which way the markets are going:

An investor in MutualHedge Legends fund, whose six underlying managers charge average fees of 0.64 percent of assets and 24.55 percent of any gain, would have to make 12 percent in the first year to break even given all the fees.

The fund, which also includes a 5.75 percent sales load and a 2 percent management fee, is up 0.7 percent this year, compared with 2 percent, including dividends, for the Standard & Poor’s 500 Index. Since its inception on Dec. 31, 2009, the Denver-based fund has returned 6 percent, not including the sales-load fee, while the S&P 500 has jumped more than 17 percent.

After a long period of dull equity index performance leading up to the global financial crisis, commodities and other formerly exotic investments started looking attractive. At the same time, the brokerage industry started pushing short term trading under the guise of “tactical allocation” with “go anywhere” money that’s not tied down to any particular asset class.

For many people, commodity investing was another flavor of the month – and the flavor of the month often costs more than the others. And if that flavor is gold or nickel it can end up tasting pretty bitter – even without the fees.