# Understanding Long/Short Funds: Strategies, Examples, and Benefits

![A young woman holding a calculator and a pencil looking at documents on a table.](https://www.investopedia.com/thmb/DJEe__-205pAiwiPpr4scvCE1Tw=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/GettyImages-1489926604-d61598f5318d43af9600a54ef32d6b7f.jpg)

*— Rockaa / Getty Images*

> **Definition**
>
> A long/short fund is a type of mutual, hedge, or exchange-traded fund (ETF) that takes both long and short positions in investments, typically from a specific market segment.

## What Is a Long/Short Fund?

A long/short fund is a type of mutual, hedge, or exchange-traded fund (ETF) that takes both long and short positions in investments. Essentially, they take long positions in stocks they expect to increase in value and short positions in stocks they think are headed lower.

Long/short trading finds profit opportunities in both undervalued and overvalued securities, unlike traditional long-only investing. Typical investment instruments used are mutual funds, hedge funds, and ETFs. These funds can outperform traditional investment strategies through active management and strategic positioning. They provide a distinctive advantage of balancing potential returns against risks. Examples of a long/short fund are the AQR Long-Short Equity Fund and the Invesco S&P 500 Downside Hedged ETF.

### Key Takeaways

*   Long/short funds take long positions in stocks expected to rise and short positions in stocks expected to fall.
*   These funds often use strategies like leverage, derivatives, and short selling, initially popularized by hedge funds.
*   Long/short funds can offer higher returns but come with higher risks, expenses, and lower liquidity compared to standard funds.
*   The 130/30 strategy is common, involving 130% long and 30% short positions to maximize returns.
*   Mutual funds and ETFs with long/short strategies have higher expense ratios due to active management and analysis.

## How Long/Short Funds Work: Strategies and Management

Long/short funds aim to boost returns by investing in specific markets and employing both long and short positions. These funds usually have higher expense ratios due to the [active management](https://www.investopedia.com/terms/a/activemanagement.asp) and analysis involved. As of 2024, the average expense ratio for long/short funds listed in the FINRA database is 1.98%, compared with 0.42% for all equity mutual funds in 2023.

Mutual funds and ETFs use strategies like long/short hedge funds, but with key differences. They balance higher risks with the potential for greater returns compared to standard benchmarks. Most long/short funds provide higher liquidity than long/short hedge funds, have no lock-in periods, and have relatively lower fees.

Yet, they often have higher expense ratios and lower liquidity than other public funds. In addition, many of these funds require larger minimums to get started and are among the 9% of mutual funds that impose front and back-end [loads](https://www.investopedia.com/terms/l/load.asp#:~:text=What%20Is%20a%20Load%3F,intermediaries%20in%20mutual%20fund%20transactions.) (commissions).

Historically, mutual funds and ETFs, particularly those employing long/short strategies, had limits on the leverage and risks they could undertake. Dating back to the Great Depression, these restrictions protect average investors who might not fully grasp the complexities of these financial instruments. Even with some rule changes, oversight remains strict to protect investors from undue risks.

Long/short funds can be a good investment for investors seeking targeted index exposure with some active management—as long as you know the risks involved. Long/short funds also offer the ability to hedge against changing markets and other trends that better managers can adjust for.

## Exploring the 130-30 Investment Strategy in Long/Short Funds

The most common long/short strategy is to be long 130% and short 30% (130 - 30 = 100%) of assets under management. For example, a [fund manager](https://www.investopedia.com/terms/f/fundmanager.asp) might rank the expected returns for S&P 500 stocks from best to worst.

Fund managers use large datasets and quantitative rules to rank stocks. The selection criteria could include total returns, risk-adjusted performance, or relative strength for a given period—six months, a year, or what have you.

The manager could then invest 100% in the top-ranked stocks and short sell the bottom-ranking stocks, up to 30% of the portfolio's value. Earnings from the [short sales](https://www.investopedia.com/terms/s/shortsale.asp) would be reinvested in the top-ranking stocks, allowing for greater exposure to their rising prices.

## Case Studies: Real-World Examples of Long/Short Funds

Let's take a look at two examples to clarify how two funds in this category can still spread their assets very differently.  

### AQR Long-Short Equity Fund (QLEIX)

The AQR Long-Short Equity Fund has been one of the better long-term performers in the long-short equity fund space. The fund invests globally across various sectors. It shows the percentage of long and short holdings in each industry.  

The fund had annualized total returns of 23.04%, 13.32%, and 10.6% over the previous three, five, and ten years up until the end of the first quarter of 2024. It had an annual [expense ratio](https://www.investopedia.com/terms/e/expenseratio.asp) of 4.35%

![AQR long-short holdings](https://www.investopedia.com/thmb/_4yF_iut8IOTzyfRkDuSfAx56iY=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/AQR1-0943d6ce161d492f9a968ad830f3e2ea.png)

*— Investopedia*

### Invesco S&P 500 Downside Hedged ETF (PHDG)

The Invesco S&P 500 Downside Hedged ETF ([PHDG](https://www.investopedia.com/markets/quote?tvwidgetsymbol=PHDG)) is an actively managed ETF that aims for positive returns in both up and [down markets](https://www.investopedia.com/8-ways-to-survive-a-market-downturn-4773417), whatever the trends of stocks and bonds. The ETF is a good contrast with QLEIX in how a long/short fund can use very different ways to hedge against downside risks.

While QLEIX is typically short in the same sectors it's gone long, PHDG distributes its assets across the components of the S&P 500 Dynamic VEQTOR Index. The latter contains equity representing the S&P 500 Index, a volatility hedge, as represented by the S&P 500 VIX Short-Term Futures Index, and cash. A chart showing its holdings is below.

Invesco says its fund tracks the performance of the broader equity markets while providing a hedge against implied volatility. The fund adjusts its exposure based on the equity and volatility of the S&P 500 Index. The fund's expense ratio was 0.39% in April 2024—relatively low for an actively managed fund, though it has features of an index fund, which generally costs less. Meanwhile, it had three, five, and 10-year returns of 4.41%, 7.05%, and 4.69%, respectively.

![Investco long/short ETF holdings](https://www.investopedia.com/thmb/1cjjzoveRMyC_hBzGswMJAWRB_M=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/Pie2-70620fad236844f999da968d94cad9c3.png)

*— Investopedia*

## What Is the Difference Between Long and Short Investing?

Long investing is buying securities with the aim of later selling them at a higher price. Short investing, meanwhile, involves borrowing stock from a broker, selling it, then repurchasing it at a lower price to return it to the broker. The aim is to profit from a security going down in value.  

## What Are Other Investments That Are like Long/Short Funds?

Most broadly, options and other derivatives trading are often used to hedge against the downside risks of equities. However, long/short funds build this in. [Market-neutral funds](https://www.investopedia.com/terms/m/market-neutral-fund.asp#:~:text=Market%2Dneutral%20funds%20are%20designed,but%20little%20or%20no%20beta.) attempt to profit from price differences between stocks while minimizing overall market exposure. They take long and short positions in carefully matched stocks to hedge broader market risks. There's pairs trading, where you take a long position in one stock and a simultaneous short position in a closely related stock. The goal is to profit from temporary discrepancies in their prices.  

## Why Is Going Short Riskier Than Going Long?

Short selling is considered riskier mainly because there is no limit to how high the security can rise in price. When you take a long position, your downside is limited to 100%. When short-selling, there is no limit.  

## The Bottom Line

The dual strategy of long/short funds involves taking long positions in undervalued stocks and shorting overvalued ones to exploit market inefficiencies. These activities may lead to greater returns but also make long/short funds riskier, with higher fees and less liquidity than regular mutual funds.

The active management nature of these funds leads to higher expense ratios compared to traditional funds, due to intensive analysis and trading activities. Due to the flexible strategy, there is potential for higher returns; however, there are risks of higher volatility and potential losses from short positions. When investing in these funds, be aware of the higher costs of entry and management for investors, which include fees and potential load charges. It's important to understand the risks involved with short positions, as they present potentially unlimited losses, unlike long positions.

> **Article Sources**
>
> 1.  Investment Company Institute. "[2023 Fact Book](https://www.icifactbook.org/pdf/2023-factbook.pdf)."
>     
> 2.  Financial Industry Regulatory Authority. "[Fund Analyzer](https://tools.finra.org/fund_analyzer/search)."
>     
> 3.  B. McCann. "[Tactical Portfolios: Strategies and Tactics for Investing in Hedge Funds and Liquid Alternatives](https://www.wiley.com/en-ie/Following+the+Trend%3A+Diversified+Managed+Futures+Trading,+2nd+Edition-p-9781119908982)," Pages 3-6. John Wiley & Sons, 2014.
>     
> 4.  J. Parnes. "[Short Selling for the Long Term: How a Combination of Short and Long Positions Leads to Investing Success](https://www.wiley.com/en-us/Short+Selling+for+the+Long+Term%3A+How+a+Combination+of+Short+and+Long+Positions+Leads+to+Investing+Success-p-9781119527824)," Pages 82-83. John Wiley & Sons, 2020.
>     
> 5.  AQR. "[RiverPark Long/Short Opportunity Fund](https://funds.aqr.com/funds/aqr-long-short-equity-fund)."
>     
> 6.  Gregory-Allen, R.B. et al. "[Short Selling by Portfolio Managers: Performance and Risk Effects Across Investment Styles](https://www.sciencedirect.com/science/article/abs/pii/B9780123877246000301)." In Greg N. Gregoriou, ed., "Handbook of Short Selling." Pages 437-451. Academic Press, 2012.
>     
> 7.  CMC Markets. "[Pairs Trading: An Advanced Strategy for Hedging](https://www.cmcmarkets.com/en/trading-guides/pairs-trading)."