Net Exposure

What Is Net Exposure?

Net exposure is the difference between a hedge fund's long positions and its short positions. Communicated as a percentage, this number is a measure of the degree to which a fund's trading book is presented to market changes.

Net exposure can be diverged from a fund's gross exposure.

Grasping Net Exposure

Net exposure mirrors the difference between the two types of positions held in a hedge fund's portfolio. If 60% of a fund is long and 40% is short, for instance, the fund's gross exposure is 100% (60% + 40%), and its net exposure is 20% (60% - 40%), assuming the fund utilizes no leverage (more on that below). The gross exposure alludes to the absolute level of a fund's investments, or the sum of long positions and short positions.

A fund has a net long exposure in the event that the percentage amount invested in long positions surpasses the percentage amount invested in short positions, and has a net short position assuming short positions surpass long positions. In the event that the percentage invested in long positions equals the amount invested in short positions, the net exposure is zero.

A hedge fund manager will change the net exposure following their investment viewpoint — bullish, bearish, or neutral. Being net long mirrors a bullish strategy; being net short, a bearish one. Net exposure of 0%, in the interim, is a market neutral strategy.

Gross Exposure versus Net Exposure

To say a fund has a net long exposure of 20%, as in our model above, could allude to any combination of long and short positions. For instance, consider:

• 30% long and 10% short equals 20% long
• 60% long and 40% short equals 20% long
• 80% long and 60% short equals 20% long

A low net exposure doesn't be guaranteed to demonstrate a low level of risk since the fund might have a huge deal of leverage. Consequently, gross exposure (long exposure + short exposure) ought to likewise be thought of.

Gross exposure shows the percentage of the fund's assets that have been sent and whether leverage (borrowed funds) is being utilized. Assuming that gross exposure surpasses 100%, it means the fund is utilizing leverage — or borrowing money to intensify returns.

The two measures together give a better indication of a fund's overall exposure. A fund with a net long exposure of 20% and a gross exposure of 100% is completely invested. Such a fund would have a lower level of risk than a fund with a net long exposure of 20% and a gross exposure of 180% since the last option has a substantial degree of leverage.

Net Exposure and Risk

While a lower level of net exposure diminishes the risk of the fund's portfolio being impacted by market vacillations, this risk likewise relies upon the sectors and markets that comprise the fund's long and short positions. Ideally, a fund's long positions ought to appreciate while its short positions ought to decline in value, subsequently empowering both the long and the short positions to be closed at a profit.

Even on the off chance that both the long and short positions go up or down together — on account of a broad market advance or decline, separately — the fund might in any case create a gain on its overall portfolio, contingent upon the degree of its net exposure.

For instance, a net short fund ought to improve in a down market in light of the fact that its short positions surpass the long ones. During a broad market decline, it is expected that the returns on the short positions will surpass the losses on the long positions. In any case, in the event that the long positions decline in value while the short positions increase in value, the fund might wind up assuming a loss, the size of which will again rely upon its net exposure.

Taking a gander at how a fund's net exposure differs throughout the long term or years and its impact on returns gives a decent indication of the managers' commitment to and mastery on the short side and the fund's reasonable exposure to swings in the market.

The year 2018, with its unpredictable stock market moves, was an extreme one for hedge funds. Notwithstanding, many contained the damage by lessening their net exposure from 80% in January to around 60% by November, as per a Goldman Sachs survey.

Gross exposures declined too, mirroring a reduction in the utilization of leverage to support returns. One fund, Suvretta Capital Management, kept its net exposure at half, yet cut gross exposure from 160% to 60% in October 2018, showing it would have rather not had a lot of debt on its books — in case a market drop make that debt mushroom.

Features

• Net exposure ought to ideally be considered along with a fund's gross exposure.
• A lower level of net exposure diminishes the risk of the fund's portfolio being impacted by market vacillations.
• Net exposure is the difference between a hedge fund's short positions and long positions, communicated as a percentage.