Long/short equity is an investment strategy[1] generally associated with hedge funds. It involves buying equities that are expected to increase in value and selling short equities that are expected to decrease in value. This is different from the risk reversal strategies where investors will simultaneously buy a call option and sell a put option to simulate being long in a stock.
Typically, equity long/short investing is based on "bottom up" fundamental analysis of the individual companies, in which investments are made. There may also be "top down" analysis of the risks and opportunities offered by industries, sectors, countries, and the macroeconomic situation.
Long/short covers a wide variety of strategies. There are generalists, and managers who focus on certain industries and sectors or certain regions. Managers may specialize in a category — for example, large cap or small cap, value or growth. There are many trading styles, with frequent or dynamic traders and some longer-term investors.
A fund manager typically attempts to reduce volatility by either diversifying or hedging positions across individual regions, industries, sectors and market capitalization bands and hedging against un-diversifiable risk such as market risk. In addition to being required of the portfolio as a whole, neutrality may in addition be required for individual regions, industries, sectors, and market capitalization bands.
There is wide variation in the degree to which managers prioritize seeking high returns, which may involve concentrated and leveraged portfolios, and seeking low volatility, which involves more diversification and hedging.
Equitized strategyEdit
This is in addition to market neutral strategy, as it adds a permanent stock index futures overlay, which makes profit or losses, depending on the movement of the market. Your portfolio then has a full equity market exposure.
Hedging exampleEdit
A hedge fund might sell short one automobile industry stock, while buying another—for example, short $1 million of DaimlerChrysler, long $1 million of Ford. With this position, any event that causes all auto industry stocks to fall will cause a profit on the DaimlerChrysler position and a matching loss on the Ford position. Similarly, events that cause both stocks to rise—for example a rise in the market as a whole—will have little or no effect on the position.
Presumably the hedge fund has sold DaimlerChrysler and bought Ford because the manager expects Ford to perform better. If the manager is correct, the fund should profit irrespective of market and sector moves.
Market neutral strategiesEdit
Market neutral strategies can be seen as the limiting case of equity long/short, in which the long and short portfolios of the fund are balanced with great care so that a very high degree of hedging is achieved. Some advantages of market neutral strategies include being able to generate positive returns in a down market, and generating returns with a lower volatility profile.
"Market neutrality" refers to hedging out market risk, which can be managed through the use of derivatives, such as futures on market indexes. Market neutral funds usually seek to hedge against most or all predictable risk exposures.
An extension on the market neutral strategy is the factor neutral strategy. The factor neutral strategy is neutral on market risk, as well as major factors like momentum and large cap vs small cap. This is a step towards more modern capital market models like the Fama–French three-factor model.
ProblemsEdit
There are many difficulties with managing long/short funds. These include the difficulties of estimating and hedging the risks to which a portfolio is exposed, and the requirement to manage unsuccessful short positions in an active manner. Short positions that are losing money grow to become an increasingly large part of the portfolio, and their price can increase without limit.
To make money, the hedge fund must successfully predict which stocks will perform better. It requires making intelligent use of the available information, but this is not enough—it also requires making better use of the available information than large numbers of capable investors. This strategy is primarily implemented by hedge funds and sophisticated institutions.
ReferencesEdit
Singh, Laurie Kaplan (2001), "Keeping It Clean", Institutional Investor Magazine
^Jacobs, Bruce I.; Levy, Kenneth N.; Starer, David (1999), "Long-Short Portfolio Management. An Integrated Approach" (PDF), The Journal of Portfolio Management (Winter 1999): 23–26, doi:10.3905/jpm.1999.319730, S2CID 154010531
External linksEdit
Equity Long-Short – Hedge Fund Strategy Explained
Pimco Long-Short – Hedge Fund Strategy Explained
September 27, 2023
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This article needs additional citations for verification Please help improve this article by adding citations to reliable sources Unsourced material may be challenged and removed Find sources Long short equity news newspapers books scholar JSTOR February 2021 Learn how and when to remove this template message Long short equity is an investment strategy 1 generally associated with hedge funds It involves buying equities that are expected to increase in value and selling short equities that are expected to decrease in value This is different from the risk reversal strategies where investors will simultaneously buy a call option and sell a put option to simulate being long in a stock Contents 1 Overview 2 Equitized strategy 3 Hedging example 4 Market neutral strategies 5 Problems 6 References 7 External linksOverview EditTypically equity long short investing is based on bottom up fundamental analysis of the individual companies in which investments are made There may also be top down analysis of the risks and opportunities offered by industries sectors countries and the macroeconomic situation Long short covers a wide variety of strategies There are generalists and managers who focus on certain industries and sectors or certain regions Managers may specialize in a category for example large cap or small cap value or growth There are many trading styles with frequent or dynamic traders and some longer term investors A fund manager typically attempts to reduce volatility by either diversifying or hedging positions across individual regions industries sectors and market capitalization bands and hedging against un diversifiable risk such as market risk In addition to being required of the portfolio as a whole neutrality may in addition be required for individual regions industries sectors and market capitalization bands There is wide variation in the degree to which managers prioritize seeking high returns which may involve concentrated and leveraged portfolios and seeking low volatility which involves more diversification and hedging Equitized strategy EditThis is in addition to market neutral strategy as it adds a permanent stock index futures overlay which makes profit or losses depending on the movement of the market Your portfolio then has a full equity market exposure Hedging example EditA hedge fund might sell short one automobile industry stock while buying another for example short 1 million of DaimlerChrysler long 1 million of Ford With this position any event that causes all auto industry stocks to fall will cause a profit on the DaimlerChrysler position and a matching loss on the Ford position Similarly events that cause both stocks to rise for example a rise in the market as a whole will have little or no effect on the position Presumably the hedge fund has sold DaimlerChrysler and bought Ford because the manager expects Ford to perform better If the manager is correct the fund should profit irrespective of market and sector moves Market neutral strategies EditMarket neutral strategies can be seen as the limiting case of equity long short in which the long and short portfolios of the fund are balanced with great care so that a very high degree of hedging is achieved Some advantages of market neutral strategies include being able to generate positive returns in a down market and generating returns with a lower volatility profile Market neutrality refers to hedging out market risk which can be managed through the use of derivatives such as futures on market indexes Market neutral funds usually seek to hedge against most or all predictable risk exposures An extension on the market neutral strategy is the factor neutral strategy The factor neutral strategy is neutral on market risk as well as major factors like momentum and large cap vs small cap This is a step towards more modern capital market models like the Fama French three factor model Problems EditThere are many difficulties with managing long short funds These include the difficulties of estimating and hedging the risks to which a portfolio is exposed and the requirement to manage unsuccessful short positions in an active manner Short positions that are losing money grow to become an increasingly large part of the portfolio and their price can increase without limit To make money the hedge fund must successfully predict which stocks will perform better It requires making intelligent use of the available information but this is not enough it also requires making better use of the available information than large numbers of capable investors This strategy is primarily implemented by hedge funds and sophisticated institutions References EditSingh Laurie Kaplan 2001 Keeping It Clean Institutional Investor Magazine Jacobs Bruce I Levy Kenneth N Starer David 1999 Long Short Portfolio Management An Integrated Approach PDF The Journal of Portfolio Management Winter 1999 23 26 doi 10 3905 jpm 1999 319730 S2CID 154010531External links EditEquity Long Short Hedge Fund Strategy Explained Pimco Long Short Hedge Fund Strategy Explained Retrieved from https en wikipedia org w index php title Long short equity amp oldid 1157533374, wikipedia, wiki, book, books, library,
