Finra clarifies guidance on leveraged and inverse ETF investment

The Financial Industry Regulatory Authority (Finra) has released further guidance to clarify its position on investing in leveraged and inverse ETFs.

Finra issued Regulatory Notice 09-31 in June 2009, which was designed to increase awareness of the investment objectives of leveraged and inverse funds. The notice aimed to ensure that broker-dealers meet regulatory duties when recommending these products to investors.

However, the original notice stipulated: "...inverse and leveraged ETFs are typically not suitable for retail investors who plan to hold them for more than one trading session."

Direxion Shares, a US ETF provider which offers 22 leveraged and inverse ETFs, is one of the industry players which has contested this statement.

Foreside Fund Services, the distributor for Direxion Shares, requested additional guidance from Finra about its statement, to clarify that broker-dealers were not precluded from selling these ETFs to investors who aim to hold them for longer than one day.

It also sought to clarify that it remained the obligation of the broker-dealer to conduct a suitability analysis with regards to investors and the ETFs.

The Investment Company Institute also called on Finra to withdraw the notice and instead issue a notice that acknowledges that the suitability of these products is determined by Finra member firms. It also requested Finra provides guidance as to recommendations involving non-traditional ETFs.

On July 13, Finra confirmed that Finra member firms could recommend that retail investors can hold these ETFs for longer than one day, as long as a suitability assessment is carried out with the investors.

In a podcast, the regulator says: "Leveraged and inverse ETFs can be appropriate if recommended as part of a sophisticated trading strategy that will be closely monitored by a financial professional. At times, this trading strategy might require a leveraged or inverse ETF to be held longer than one day."

Finra also highlights that the suitability rule only applies in the context of a broker-dealer making a recommendation.