R32 : Long-Short strategy vs. Portable Alpha

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AMC

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Is Long-Short strategy just an opposite of Portable Alpha ?
Market neutral strategy : Buy one stock which is under-valued and short another which is over-valued in the same industry. This will eliminate systematic risk so that beta =0 (that’s why its called market neutral) and generates 2 alpha. Systematic risk can be added by using equity futures or ETF.
Potable alpha : Gains a systematic exposure (beta) through a low-cost index fund or ETF while adding alpha through a market (long-short) neutral strategy.
 
Not opposites, just different strategies. Portable alpha - lets say you have a great small cap manager who consistently beats the Russell 2000. You want that alpha, but do not want the systematic risk of small cap. So, you short Russell 2000 to hedge that. You could also long S&P 500 if say, you prefer that beta. Now you’ve got exposure to large cap beta and small cap alpha - hence the alpha is portable.
 
Chi Paul,
In your example of Portable alpha :
Do you mean that I gain a systematic exposure (beta) through a low-cost index fund or ETF (long S&P 500) while adding alpha from the small cap manager ?
Then a market (long-short) neutral strategy is irrelevant ?
 
>>Do you mean that I gain a systematic exposure (beta) through a low-cost index fund or ETF (long S&P 500) while adding alpha from the small cap manager ?
yes, or you could gain beta exposure through futures as well I suppose.
>>Then a market (long-short) neutral strategy is irrelevant ?
Well, market neutral is distinct from a portable alpha strategy, from that sense I guess you could say it’s not relevant to a PA strategy.
 
In a market neutral strategy both the long and short position should generate alpha, the short isn’t merely a hedge.
 
Here is my run down for all the startagies.
1) Long only approach has only one alpha and one beta both from same portfolio source.
2) LS approach has two alpha and zero beta from same portfolio source.
3) LS-equitize has two alpha from portfolio source and one Beta from ETFSource or Equity Index future source. Here Alpha and beta are seprated .
4)LS spread (two alphas ) can be transported to various asset classes . This is called portabale alpha.
5) The one Chi Paul has described is Alpha beta sepration as you do not want two betas when you change index so you have to short the first index future
 
Captain Barbosa Wrote:
——————————————————-
> 3) LS-equitize has two alpha from portfolio source
> and one Beta from ETFSource or Equity Index future
> source. Here Alpha and beta are seprated .
Which strategy in CFAI text ?
> 4)LS spread (two alphas ) can be transported to
> various asset classes . This is called portabale
> alpha.
What is the beta ?
> 5) The one Chi Paul has described is Alpha beta
> sepration as you do not want two betas when you
> change index so you have to short the first index
> future
Is it that Alpha & Beta separation is same one as portabale alpha ?
 
AMC, he’s describing the strategy from LOS(n): Explain how a market-neutral portfolio can be “equitized” to gain equity market exposure.
For alpha/beta separation, the important point is that the beta’s coming from a distinct source relative to his “alpha”. e.g. in the CFAI text p. 261, manager wants his “beta” exposure to Russell Top 200 and “alpha” from long-short portfolio of Japan equities. So, the strategy’s Russell 200 beta + alpha from the Japan equity strategy. He’s separated his alpha from his beta.
Just focus on what Captain Barbosa aptly summarized above, and you’ll be fine. They’re likely to just ask you to compare/contrast the various strategies and any advantage/disadvantage. Not, write a whole paragraph on each.
 
1) Traditional Long Only - Investor cannot short, and can only go long on the security. Weights adjusted relative to the benchmark to reflect investor’s opinion. Alpha generated if the manager is right on his opinions. Beta also generated from the same source.
2) LS approach - This is commonly known as market neutral strategy. Investor long and short equal currency amounts of two common stocks in a single industry. Hence, zero beta and risks are limited to the specific company risks. Two alphas generated here, one from the long side and one from the short side, if the investor is right on his opinions. Return pattern thus uncorrelated to with the equity markets. Alpha from this strategy can be “portable” to other beta risk exposure strategies. I think this strategy is also known as a “pairs trade”. Generally designed to have a market beta of zero.
3) LS Equitized approach - So, you have a market neutral strategy as explained above. Investor wants full stock market exposure (systematic + unsystematic) i.e. investor wants to add an equity beta to the alpha generated. Hence, go long on the required stock index futures or ETFs.
Return on total portfolio = Sum of gains or losses on the long and short positions + gain or losses on the long futures positions + interest earned on the cash position resulting from shorting securities.
4)LS spread - Taking the alpha from no.2 and investing with other asset classes. I don’t know if this is classified as a separate investment strategy. Basically the same as an alpha beta separation for me.
5) Alpha beta separation - For me, this is like an opposite of L/S Equitized strategy. You have beta exposure to an efficient part of the market and you want outperform that particular market also. Then, you add the alpha from a L/S market neutral strategy. (Portable alpha).
Whereas, in a L/S Equitized strategy, you are market neutral and want to add beta exposure. (A portable beta strategy maybe????).
6) Short-extension strategy - strategy attempts to benefit from a partial relaxation of the long-only constraint while controlling the risk factor. Designed to have a market beta of 1.
Portfolio looks something like = 100% long + x% long + x% short.
 
Captain Barbosa & Neveruse_95%_everagain,
I am sorry but I am just confused by the terms used in CFAI text & used by Captain Barbosa. Please kindly confirm/clarify following.
LS-equitize : Equitized long-short market-neutral (pair trade) strategy ?
LS spread (two alphas ) = portabale alpha = Alpha & Beta separation ?
TKVM !
 
Where in CFAI text can I find the term of “LS spread (two alphas )” ?
 
According to Schweser, Alpha & Beta separation = Portabale Alpha.
 
sparty419 Wrote:
——————————————————-
> Page 247, first para.
TKVM ! I found it. But I am not sure what does it really mean by “long-short spread”.
Anyone can explain / clarify ?
 
I think it just means the alpha (additional return). Kinda like saying net interest spread for banks or insurance companies. CFAI just trying to fuck around with us I guess.
 
sparty419 Wrote:
——————————————————-
> I think it just means the alpha (additional
> return). Kinda like saying net interest spread for
> banks or insurance companies. CFAI just trying to
> fuck around with us I guess.
If anyone know what does “long-short spread” mean, please kindly advise.
TKVM !
 
As for long-short spread (Vol4, p.247) mentioned in the text, it reads to me, as long-short strategy, which should have no beta, and as many of you have indicated, it has 2 alphas. The paragraph basically confirms this notion when it compared to risk-free asset. However, when it becomes equitized (stock futures, ETF), the portfolio should be treated as equity portfolio.
As for Alpha beta separation and portable alpha, they are the same CFAI text (Vol 4, pg 261) as some of you have already indicated.
As for L/S equitized versus portable alpha, the way I read it, it is more of a perspective of who than what. L/S equitized is a form that a P.M would employ to increase equity exposure on a market-neutral portfolio, whereas, in portable alpha, you are the investor, and you want exposure to 2 different managers (using CFAI example pg. 261), Russell 200 index fund manager and L/S manager of Japanese equity.
 
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