SEC Halts High-Leverage ETFs: 3x and 5x Blocked Over Risk Rules

SEC Halts Nine ETF Applications Over Risk Limits

The SEC (Securities and Exchange Commission) issued nine identical letters on December 2-3, 2025, blocking new high-leverage ETF applications from major providers. The regulatory action targeted Direxion, ProShares, and Tidal, among others, citing violations of federal leverage limits. Fund managers must revise their investment strategies or formally withdraw applications. The action represents an unusual regulatory intervention during an otherwise active approval period for crypto and traditional ETFs.

Rule 18f-4 Enforces 200 Percent VaR Ceiling

The SEC's enforcement rests on Rule 18f-4, adopted in November 2020, which limits fund leverage based on Value at Risk (VaR). VaR is a statistical measure estimating potential portfolio losses. The rule imposes a relative VaR limit of 200%, meaning leveraged funds cannot exceed twice the daily return volatility of their underlying index. Proposed 3x and 5x leveraged ETFs exceed this threshold and violate compliance requirements under current interpretation. Existing funds launched before October 2020 received grandfathered exemptions but new filings do not qualify.

Volatility Decay Erodes Returns Over Time

Leveraged ETFs reset daily to maintain target ratios, creating compounding losses in volatile markets. A 3x leveraged ETF tied to an asset that falls 10% and rises 10% ends approximately 9% lower than the original level, despite the asset returning to its starting point. This volatility decay effect accelerates during market turbulence and erodes investor capital independent of directional market moves. Risk compounds when positions are held longer than intended.

Regulatory Concern Reflects Systemic Risk Assessment

The SEC's coordinated action—issuing nine identical letters on the same date—signals regulatory priority. Division of Investment Management officials flagged that extreme leverage during market dislocations can trigger forced liquidations, liquidity spirals, and derivatives execution failures.

The agency has received a large number of registration statements for ETFs seeking to offer 3x and 5x leveraged, equity-linked exposure. It is still unclear whether such ETFs would be consistent with the Derivatives Rule, Rule 18f-4, which generally limits leverage to 2x.— Brian Daly, Director, Division of Investment Management, SEC