What Is TQQQ? How This 3x Leveraged ETF Works

TradingKey - If you've ever looked at the stock market and wished your returns could triple on a good day, chances are someone has pointed you to TQQQ. So, what is TQQQ? In this guide, we’ll break down exactly how TQQQ works, the mechanics behind leveraged ETFs, when it might be useful, and why timing and discipline are absolutely critical when using this high-octane market instrument.

The TQQQ is an Exchange Traded Fund (ETF) that follows the Nasdaq-100 Index, however, at a much more enhanced level. 

ProShares has introduced this ETF that uses a 3X leveraged strategy that increases the amount of movement of the Nasdaq-100, which is the stock index representing large technology companies on a daily basis. This means when the Nasdaq-100 rises 1%, TQQQ will rise approximately 3% and the reverse will occur: if the Nasdaq-100 falls 1%, TQQQ will fall 3%.

The TQQQ has been fully utilized by day traders looking to capitalize on the historical volatility caused by large tech companies, such as Apple, Amazon, Microsoft, Nvidia, and Tesla, that comprise the Nasdaq-100.

TQQQ is a very different animal than your typical ETF. 

While most ETFs simply track what their underlying asset does each day until they are sold, TQQQ attempts to create 300% exposure to the daily price movement of the NASDAQ-100 by using derivatives, including both futures and swaps. 

Because TQQQ resets its 300% exposure to the NASDAQ-100 at the end of each trading day, its performance over time does not always equal 300% of the performance of the NASDAQ-100, due to compounding effects. 

Also, TQQQ will typically experience what traders refer to as "beta slippage" when prices are volatile, so although TQQQ may have posted a very high short-term return, those will probably not be representative of long-term multiples of the NASDAQ-100.

Therefore, TQQQ is often used by traders for tactical asset allocation or momentum opportunities rather than for traditional buy-and-hold investing strategies.

TQQQ utilizes derivatives, such as futures and swaps, to target triple daily returns on the Nasdaq-100 (which is loaded with such large companies as Nvidia, Microsoft, Apple, Amazon and Tesla). 

This daily reset of leverage means that TQQQ is designed for tactical trades and/or short-term moves, not "buy-and-hold" or long-term investments. 

Compounding is a key component in the experience of using TQQQ; in a sustained upward trend, compounding can assist; in choppy markets, compounding can hinder your profits. 

Over time, especially with big swings in the market, the daily reset can create what traders refer to as beta slippage, when the actual results are not equal to simply multiplying the index by three.

Because TQQQ targets a leveraged return every day, the timing of the returns affects the final return. This means that while the index may reach close to its target at the end of the investment, this will not happen with a high degree of consistency in volatile markets due to the price fluctuations during the holding period."

Some investors see greater rewards from a longer duration of holding during uncertain economic times than do others who hold TQQQ and are disappointed in them due to needing a clearly defined, consistent strategy to invest effectively in this type of fund.

There is a clear appeal to utilizing a leveraged ETF like TQQQ given that a 3X exposure can provide substantial returns on small price movements. 

Also, since there is a high level of liquidity in TQQQ, most traders can quickly enter and exit an investment without difficulty. For traders utilizing short-term trading strategies (momentum trading, trend trading, and tactical trading during events), TQQQ has become increasingly popular.

 However, there are also some very obvious risks associated with trading TQQQ, such as the speed at which losses can accumulate. The daily rebalancing can severely limit returns during sideways price action, and you certainly cannot buy TQQQ and forget about it. 

TQQQ is certainly not appropriate for conservative investors, and it requires active management and constant monitoring of risk.

The Nasdaq-100 is heavily biased towards tech and other growth-based companies. That bias increases the sensitivity of company earnings surprise, interest-rate movements, inflation news, and geopolitical information releases due to changes in investor sentiment and increased volatility. 

A negative sentiment toward big tech or the financial market can change the regulatory environment and stimulation of volume/risk appetite, as well as deteriorate potential demand for growth equities due to either an economic slowdown or increased interest rates, therefore making the risk of proprietary product (TQQQ) far more pronounced within those environments.

Comparatively, leveraged ETFs typically charge higher fees (expense ratios) than traditional index funds and the same is true with TQQQ. 

Depending on the snapshot you’re looking at for TQQQ’s expense ratio, you could see a range of 0.82% versus 0.97% (this means it would be reasonable to refer back to TQQQ's most recent prospectus). Also, within the same comparison chart, you will find TQQQ's dividend yield represented differently, too, e.g., 0.72% on one day but 1.4% several days later; again, it depends on which data set the information comes from. 

While TQQQ does have strong liquidity, depending on how high (low) your expenses (velocity (volatility)) are and how many returns you have, as long as your expense ratio is relatively low, then, in a downward/stagnant market, your expense ratio will feel "more pain."

When trading in a fast-paced environment, execution and risk control are critical to success. 

On platforms built for speed and transparency, traders can take advantage of narrow spreads and transparent pricing, maximise capturing moves in the present and utilise tools like Stop-Loss and Take-Profit to manage their discipline.

All of the traditional timing challenges that come with trying to time the market apply to TQQQ. If you enter too late in a rally or decide to exit during a panic, the gains and losses from your investment are multiplied. 

Emotional swings caused by sudden rises in stock prices can create a sense of overconfidence that can lead to poor investment decisions, while the same circumstances can create such a fear of losing money that you make poor investment choices as well. 

Having a disciplined approach with position sizing, a defined amount of risk per trade, and clear exit strategies allows you to make rational decisions about your investments, even when there are dramatic price moves.

The swift response to your inquiry, "What is TQQQ?" is that it is a threefold daily leveraged mechanism by which to wager upon the performance level of the Nasdaq 100 Index.

However, there is an extensive answer for TQQQ that has the potential for significant profitability depending on the application of a disciplined approach, combined with having an explicitly defined trading method supported by sufficient market data. 

Given TQQQ's inherent risk nature, it should be viewed as a non-option or a non-suitable investment for conservative-type investors; in addition, it should not serve as a long-term hold investment. Respect the leverage factor of your investment; know that TQQQ rebalances each trading day, and thus implement strict risk management procedures. 

By following these guidelines, you will afford yourself the greatest opportunity of maximizing your potential returns over time while allowing time for your edge(s) to become evident through careful execution of your defined strategy over multiple trading days (weeks, months, etc.).