Fed: LETFs Contribute To Stock Volatility

LETFs (leveraged exchange traded funds) may contribute to stock volatility in the same way that portfolio insurance contributed to the 1987 stock market crash, according to recent research done by Tugkan Tuzun at the U.S. Federal Reserve. He argues that the same positive feedback loops, especially during the final hour of trading, exacerbate high volatility, though it may not have a significant effect on the market during times of relative stability.

Before the stock market crash of October 19, 1987 asset managers often used portfolio insurance strategies that involved buying stocks when the market moved up and selling...