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Fund Spy

Is this New Fund Type Worth the Hype?

Find out whether 130/30 funds are all they're cracked up to be.

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The so-called "130/30 fund" is new and rare enough that this article may be your introduction to the species. That said, expect to hear a lot more about it in the coming months; asset managers are starting to roll the funds out, and all signs point to an impending flurry of launches in the not-too-distant future. Supporters include some investors and plenty of marketers who breathlessly describe the 130/30 structure as a breakthrough that will revolutionize investing and amp up returns. Ultimately we think that investors should understand--but look past--the hype and bring a healthy amount of skepticism to the table when judging this group.

Nuts and Bolts
The mechanics underlying such funds explain the curious name. First and foremost, as the name suggests, the fund's assets are split into two parts: a long portfolio and a short portfolio. Most investors, even if they don't know it, understand what a long portfolio is. When a fund buys a stock that it expects to appreciate, that is buying it "long." The reverse of this, attempting to profit from a stock that drops in value, is called "selling short." When an investor sells short a stock, he borrows shares of that stock, sells them in the market, and expects (or at least hopes) to buy them back after its share price falls.

The numbers in the name of this group refer to the weightings of the long and short portfolios. That is, a 130/30 fund invests 30% of its assets in a short portfolio and 130% of its assets in a long portfolio. It runs as follows. Let's say such a fund has $1 million in investor assets. It buys a $1 million portfolio of stocks long and establishes a $300,000 short portfolio. So when one shorts, one receives cash for the just-sold shares--in this example, $300,000. The 130/30 manager will then reinvest that cash, thus adding a 30% long stake to the existing 100% long stake and the 30% short stake. And voila, a portfolio is 130% long and 30% short.

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Todd Trubey does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.