June 23, 2024

Proshares Ultra Silver (AGQ) Delivers Huge Gains On Soaring Silver Price

Surging silver prices over the past two years have resulted in huge gains for silver investors. The price of silver bullion has skyrocketed from the $8 level in late 2008 to a New York Spot Price of over $39 per ounce today for a gain of 388%.

Besides directly purchasing silver bullion, other common ways to profit from the silver bull market include investing in silver stocks or silver Exchange Traded Funds (ETF).  The inconvenience and higher transaction costs of investing directly in physical silver has resulted in a major flow of investment dollars into silver ETFs.

The largest silver ETF, the iShares Silver Trust (SLV), has attracted huge investor interest and has seen an astonishing increase in asset growth. The SLV, which held $263.5 million in silver at its inception in April 2006, closed today with total net assets of $13.7 billion. The SLV is structured so that its net asset value per share approximates the value of one ounce of silver bullion. The SLV has worked as it was designed to and the returns are comparable to the return from a direct investment in silver bullion.

There is another silver ETF, however, that has been the standout winner for silver investors.  The ProShares Ultra Silver (AGQ) has soared from its initial $22 a share price in December 2008 to a closing price today of $243.98, providing initial investors with a gain of over 1,000%.   According to ProShares, the AGQ seeks to provide for a single day twice the return of silver bullion as measured by the London Fix Price.  The gain on the AGQ has exceeded the returns on silver bullion, the SLV, and a basket of silver stocks by a wide margin as can be seen below.


The AGQ was launched by ProShares on December 1, 2008, trades on the New York Stock Exchange and is defined by the Commodity Exchange Act as a commodity pool.  ProShares is part of the ProFunds Group which manages over $31 billion in mutual funds and ETFs.  ProShares also offers the UltraShort Silver (ZSL) which is a double inverse ETF and the exact opposite of the AGQ.  The ZSL seeks to produce a 200% opposite investment result of a long position in silver and will therefore increase in value if the price of silver declines.

One important element that investors should be aware of is that the AGQ does not hold physical silver, as is the case with SLV and PSLV.  The AGQ seeks to achieve its stated investment objective by owning financial instruments whose underlying value is correlated to the price of silver.  The AGQ may hold various complex financial instruments such as forward contracts, option contracts, swap agreements and futures contracts. As of April 5, 2011, the ProShares Ultra Silver held the majority of its assets in silver forward contracts.

The ProShares prospectus states that ProShares Ultra Silver seeks a 200% return on the performance of silver bullion “for a single day” since returns over periods greater than one day could vary in direction or amount from the target return due to compounding of daily returns.  The four factors cited by ProShares that could result in differences between daily and long term returns are index volatility, inverse multiples, holding periods, and leverage.

As every investor knows, greater rewards usually involve taking greater risks and the AGQ is no exception to this rule.  ProShares uses complex financial instruments that are subject to volatility in order to achieve leveraged results and the Ultra Silver ETF is therefore subject to much greater risk than investments in traditional silver securities.  ProShares warns investors that certain financial instruments held by the AGQ may be “subject the fund to counterparty risk and credit risk, which could result in significant losses for the fund”.  ProShares also notes that the Ultra Silver ETF is non-diversified and entails risks associated with the use of derivatives.

The bottom line is that the ProShare Ultra Silver is much riskier than investing in silver trust ETFs, silver stocks, or silver bullion and should therefore be used only by knowledgeable investors.   As long as silver continues to increase in value, investors are likely to see outsized gains in the AGQ.  Leverage, however, works both ways and a sharp price correction in silver would result in significant losses to investors in the AGQ. An example of how severe losses can be in a leveraged ETF can be seen by looking at the investment results of the ZSL which is designed to go up in value if the price of silver declines.

ProShares introduced the ZSL when silver was below $10 per ounce and, needless to say, initial investors who maintained an investment in the ZSL have experienced devastating losses.  The ZSL has declined almost 50% this year and since its inception in late 2008, has experienced a split adjusted decline of over 95%.

ProShares Ultrashort Silver (ZSL) – Double Inverse Silver ETF

Many of us have been accumulating large positions in silver bullion and silver mining shares. Whether these positions have been held for decades or only for the past year, the recent explosive move up in the silver price has caused some to wonder if there is a way to protect gains from a possible pull back in silver prices.

The bull market in silver has a long ways to go considering the perilous state of sovereign finances, surging commodity prices, and the risk of political and military turmoil in Saudi Arabia. Nonetheless, it is normal for every bull market to experience sharp price sell offs, such as the almost $300 per ounce drop in gold prices during 2008. An experienced investor with a long term view and fundamental understanding of the long term appeal of gold would have used this occasion to increase gold positions in a portfolio.

For investors who may be short term bearish and do not wish to see their portfolio take a steep dive, hedging against a significant short term sell off may make sense and increase overall portfolio returns.

Investors in silver sitting on a 400% gain since October 2008 and wishing to protect profits may consider the purchase of an offsetting position in the ProShares UltraShort Silver (ZSL) to protect profits. Investments in commodities or precious metals can exhibit very volatile price movements. In 2008, the price of silver dropped by 50% in four months, possibly prompting some investors to sell their positions and miss out on the explosive upward move that followed. Hedging volatility to protect large gains without reducing core silver holdings is possible for the average investor by purchasing the ZSL.

The Ultrashort Silver (ZSL) is an inverse ETF that seeks to produce twice (200%) the opposite investment result of the daily price movement in silver. An inverse ETF for silver is therefore a means of profiting from a downward move in silver as measured by the U.S. London fix price. In theory, a 10% drop in the price of silver would result in a 20% gain in the price of the ZSL.

The ZSL trades on the New York Stock Exchange and was launched by ProShares which offers the largest selection of leveraged and inverse ETFs. ProShares is part of the ProFunds Group which has $31 billion in ETF and mutual fund assets.

The ZSL does physically hold any position in silver bullion. In order to achieve a 200% inverse investment result of the price change in silver, the ZSL positions itself daily through the use of financial instruments whose value is based on the underlying silver price. The complex financial instruments used to achieve the ZSL’s investment objectives include swap agreements, forward contracts, futures contracts and option contracts.

ProShares states that the ZSL seeks achievement of the targeted returns for only a single day since investment returns beyond a day can be higher or lower than the 200% inverse investment return objective. According to ProShares, the four factors affecting the divergence between daily and long term investment results are the holding periods, index volatility, leverage and inverse multiples. An investment in the ZSL should be monitored daily since the return for longer periods of time can vary significantly from short term results.

For the investor who understands the risks associated with a double inverse ETF, the ZSL can be a valuable tool to manage the risk of a large investment in silver. The four most common uses of the ZSL (according to ProShares) is to help hedge a silver portfolio, obtain greater profits (or loss) through leverage, commit less cash investment for a specific level of silver exposure, and to reduce exposure to a silver position without a reduction of portfolio holdings.

Ironically, the ZSL was launched near the bottom of the silver market in late 2008 and the investment results have been catastrophic for a buy and hold investor in ZSL. The split adjusted price of ZSL has dropped from $1100 to the mid $20’s as the price of silver soared.  Leverage works on both the upside and downside to magnify investment results and in this regard the ZSL was successful. During 2010, the ZSL had a 77% loss and has declined even further during 2011.

Whether or not the ZSL will be a profitable investment in the future is unknown but it is one investment strategy that can be used to hedge a potential drop in silver prices.