* Lawsuit brought by investors in 44 ProShares ETFs
* 2nd Circuit finds risks properly disclosed
By Jonathan Stempel
NEW YORK, July 22 In a decision that reminds
investors about the potential dangers of leverage, a federal
appeals court on Monday rejected a lawsuit challenging how risks
were disclosed by a group of exchange-traded funds that aimed to
magnify market movements.
The 2nd U.S. Circuit Court of Appeals said ProShares
Advisors LLC was not liable to investors who claimed they were
misled about the risks of holding on to 44 of its leveraged ETFs
for more than one day.
Monday's decision upheld a September 2012 ruling by U.S.
District Judge John Koeltl in New York. Christopher Lovell, a
partner at Lovell Stewart Halebian Jacobson representing the
investors, did not immediately respond to a request for
Leveraged ETFs use derivatives and debt to amplify
short-term returns. They are designed for short-term investors
who target outsized gains and can stomach large losses if a
market moves against them.
ProShares, one of the largest providers of the product,
offered ETFs designed to double, move inversely to, or double
the inverse performance of an underlying index or benchmark on a
Thus, if an index rose 2 percent on a given day, then these
ETFs would be expected to respectively rise 4 percent, fall 2
percent and fall 4 percent. Leveraged inverse funds are also
known as "ultra short" funds.
Investors contended that between August 2006 and June 2009,
a period covering the global financial crisis and a plunge in
stock prices, ProShares failed to disclose the risks that its
ETFs might post substantial losses, and knew it could happen
even if investors bet correctly on a market's direction.
They cited as an example a three-month period when a U.S.
bank stock index fell 22.84 percent. They said a ProShares ETF
meant to double that index's inverse performance might have been
expected to gain 45.68 percent, but instead fell 17.3 percent.
Circuit Judge Richard Wesley, however, wrote for the 2nd
Circuit that ProShares had disclosed the "speculative" nature of
the ETFs in prospectuses, and that the ETFs might move "quite
different from and even contrary to" what investors expect.
"No reasonable investor could read these prospectuses
without realizing that volatility, combined with leveraging,
subjected that investment to a great risk of long-term loss as
market volatility increased," Wesley wrote.
In 2009, the U.S. Securities and Exchange Commission issued
an alert that advised buy-and-hold investors about the "extra
risks" posed by leveraged and inverse ETFs. ()
Robert Skinner, a partner at Ropes & Gray representing
ProShares and fund distributor SEI Investments Distribution Co
, was not immediately available for a comment.
The case is In re: ProShares Trust Securities Litigation,
2nd U.S. Circuit Court of Appeals, No. 12-3981.