Korean leveraged ETFs saw a "own-goal indicator": SK Hynix fell 8%, while the linked products surged 50%

Leveraged ETF linked to SK Hynix - KIM ACE The single-stock leveraged ETF linked to SK Hynix surged 50% on Monday, while the underlying stock actually fell nearly 8% on the same day. The fund management company later explained that this abnormal fluctuation was due to insufficient liquidity in the market-making system. This ETF closed at a historic high of 30,000 Korean won on Monday, while the South Korean stock market plummeted significantly on the same day due to the sell-off of storage chip giants Samsung Electronics and SK Hynix. The fund was supposed to achieve double the daily ups and downs of SK Hynix - based on the nearly 8% drop in the underlying stock, its net asset value should have fallen by about 15%. Other single-stock leveraged ETFs tracking SK Hynix all closed within their expected ranges on the same day. The Korean investment management company managing the ETF explained via text message that the abnormality was due to a malfunction in their liquidity provider's pricing system. "As the closing approached, the liquidity provider was not obligated to submit quotes, resulting in a widening of bid-ask spreads," the company said. "Due to the heightened price fluctuations, buy orders submitted at market prices were executed, leading to a sharp increase in the ETF price." This anomaly occurred on a day of severe volatility in the South Korean stock market. The benchmark Kospi index once plummeted nearly 9% intraday, triggering a 20-minute trading halt shortly after the market opened, as investors withdrew en masse from artificial intelligence-related trading. The small-cap Kosdaq index also halted trading in the afternoon. Jung In Yun, CEO of Fibonacci Asset Management, said, "This kind of disconnection is rare but not unprecedented. ETFs typically rely on market makers to keep prices aligned with underlying holdings. However, these safeguards may weaken during the closing auction phase, especially in thinly traded niche products." KIM ACE SK Hynix is one of more than a dozen single-stock leveraged ETFs related to chip stocks introduced in South Korea last month. The sales department of Goldman Sachs pointed out in a report at the time that these new products need daily rebalancing to maintain leverage ratios, forcing the fund to buy on the rise and sell on the fall, thus becoming an accelerator of volatility. The fund management company stated in the text message, "We will take this opportunity to comprehensively review the pricing system of liquidity providers and make every effort to prevent similar issues from happening again." Leveraged ETFs offer investors the opportunity to make directional bets on stock indices, stocks, bonds, or commodities through derivatives and swap contracts, aiming for excess returns. However, they may also exacerbate the volatility of popular stocks, as issuers often need to rapidly buy or sell assets to maintain the fund's leverage ratio as promised. The rebalancing flows associated with such products have been considered one of the reasons for the recent market volatility. Yun from Fibonacci said, "The bigger concern now is for investors who bought this ETF near the close. Once liquidity providers resume quoting at the opening on Tuesday, the fund is expected to be repriced to levels close to fair value, and investors who bought at around 30,000 Korean won may face losses close to 50%."