What Are 130/30 Funds?

How to Calculate 130/30 Funds

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130/30 funds are unique investment securities that work quite differently than traditional mutual funds. They typically invest around a benchmark index, holding short positions in addition to long positions on particular equities.

Find out how 130/30 funds work and their risks and benefits.

What Are 130/30 Funds?

130/30 funds are mutual funds that invest in a combination of long and short positions on their stock holdings. A 130/30 fund will be long (or own) stocks worth 130% of the portfolio while shorting 30% of investor assets in the fund. They may also be called long-short equity funds or short-extension funds. They are considered an alternative asset.

How Do You Calculate a 130/30 Fund?

Because they combine both long and short positions, 130/30 funds can increase long exposure to attractive stocks. The fund begins with 100% long positions, then shorts the least-attractive holdings 30%, using the proceeds to increase long equity exposure 30%, resulting in 130% long.

How 130/30 Funds Work

Let’s look at a simple example to understand the concept of 130/30 funds:

  1. Let's say a fund has $1 million of assets, with which it buys $1 million of securities (100% long).
  2. The fund borrows securities worth $300,000 and sells those securities (30% short).
  3. The proceeds from the short sales are used to buy $300,000 additional securities (30% long).
  4. The fund has $1.3 million securities long (130% long) while shorting $300,000 (30% short).
  5. Now we have a 130/30 fund.

The Benefits of 130/30 Funds

The 130/30 fund structure may be particularly interesting to the active fund manager who believes they add value by picking and choosing individual stocks. For instance, the traditional fund manager can choose stocks that they believe will increase in value—investing 100% of the portfolio in their stock selections. On the other hand, the fund manager of a 130/30 fund also has a net exposure to the market of 100%, but they are able to make investment decisions with 160% of the portfolio’s assets.

How do they achieve 100% exposure to the market and make investment decisions with 160% of the portfolio’s assets? As in the example above, the fund manager decides to buy stocks worth a total of 130% of the fund’s assets and decides to short stocks worth 30% of the fund's assets. The fund exposure to the market is 130% positive and 30% negative which nets to 100%. They have made active decisions with a gross exposure of 160% of the portfolio (130% long, 30% short).

Difference Between Traditional Funds and 130/30 Funds

The traditional equity mutual fund owns the stocks the fund manager believes will outperform compared to the fund’s benchmark. So for example, the fund manager might buy shares of Microsoft because they believe that Microsoft will outperform a domestic large-cap equity index, such as the S&P 500. But if this same manager decides that Microsoft is a lousy investment, they can only sell the stock if they currently own it.

Therein lies the difference between a traditional mutual fund and a 130/30 fund. If the manager of a 130/30 fund believes Microsoft is a lousy investment, they can sell the stock short.

Managers of 130/30 funds can sell the stock without owning the stock—a strategy that investors can use to take advantage of a falling stock price.

So, a manager of a 130/30 fund can make a decision to buy a stock in order to make money and also sell stock to make money, versus the traditional fund manager who can only sell a stock to avoid losing money.

Limitations of 130/30 Funds

As with any investment, 130/30 funds carry some risk, primarily with short selling and leverage.

A portfolio with both long and short selling may have higher turnover, which could mean additional transaction costs and tax consequences.

Holding both long and short positions on stocks doesn't guarantee they'll limit the fund's exposure to risk factors such as stock market movements.

Plus, short selling carries risks such as increased fees for borrowing and the risk of being called at an inopportune time.

Key Takeaways

  • 130/30 funds are investments in which the fund holds both long and short positions on certain stocks.
  • The main benefit of 130/30 funds is the ability for an investor to gain more exposure and therefore more opportunity.
  • 130/30 funds carry investment risk, plus risk related to the techniques of leverage and short-selling they use.

The Balance does not provide tax, investment, or financial services and advice. The information is being presented without consideration of the investment objectives, risk tolerance, or financial circumstances of any specific investor and might not be suitable for all investors. Past performance is not indicative of future results. Investing involves risk including the possible loss of principal.

Article Sources

  1. Hillsdale Investment Services. "AIMA Strategy Paper 130/30 Strategy." Accessed Aug. 27, 2020.