Long-Short vs Long-Only Funds

Introduction to Long-Short vs Long-Only Funds in Equity Investing

In recent years, sophisticated investors in India have started allocating capital to equity-biased long-short funds, a hybrid category that aims to combine the upside of equities with built-in downside protection.

But what are the key differences between long-short vs long-only funds, and how do they compare with traditional long-only equity funds, which remain the backbone of most investor portfolios?

Let’s decode the differences, benefits, and strategic roles of both in a well-constructed investment portfolio.

Long-Short vs Long-Only Funds: Beyond Just Returns

The debate between long-only equity funds and equity-biased long-short strategies goes beyond numbers — it’s about understanding the philosophy of participation versus the discipline of protection.

 1. Investment Philosophy in Long-Short vs Long-Only Funds

• Long-Only Funds operate on the belief that markets reward long-term equity ownership. The idea is simple: buy good businesses, hold through volatility, and let compounding do the work.
• Long-Short Funds, on the other hand, are rooted in risk asymmetry. They recognize that equity markets can be irrational, and protecting capital during drawdowns is just as important as capturing gains.

2. Investor Psychology: How Long-Short vs Long-Only Funds Affect Behaviour

• In long-only strategies, sharp corrections can lead to panic selling, timing errors, and loss of discipline.
• Long-short strategies are engineered to reduce regret. Lower volatility makes it easier for investors to stay invested and benefit from compounding.

This makes long-short funds ideal for:

• HNIs who prioritize capital protection
• Retirees looking for steady equity participation
• First-generation investors who are emotionally sensitive to loss

What Are Long-Only Equity Funds?

Long-only funds stick to one rule: buy stocks and stay invested. These funds offer full equity market exposure and benefit most when markets are trending upwards.

Key Traits:

• Simpler to understand and track
• Higher returns in bull markets
• No hedging — hence higher volatility
• Lower costs compared to long-short funds

Long-only equity funds are ideal for young investors, aggressive growth seekers, and those with a long-term horizon who can stomach market swings.

How Long-Short Funds Reduce Risk

Long-short funds combine:

• Long positions in high-conviction stocks
• Short positions in weak, overvalued, or vulnerable companies
• Net exposure ranging from 30% to 90%, adjusted monthly or dynamically
• Active hedging to manage downside in turbulent market phases

This design makes them capable of participating in rallies while preserving capital during downturns.

How Long-Short Funds Work: A Real-World Example

Understanding how equity-biased long-short funds function can be best illustrated through a market cycle example:

Hypothetical Scenario: 2 Extreme Months

Month	Market Performance	Long-Only Fund (100% Net Long)	Long-Short Fund (60% Net Exposure)
Month 1	+900%	+900% return	+540% return (60% of 900%)
Month 2	–80%	–80% loss	–48% loss (60% of –80%)

End Result:

• Long-Only Fund: ₹100 → ₹1000 → ₹200 (Total Gain: 2x)
• Long-Short Fund: ₹100 → ₹640 → ₹332.8 (Total Gain: 3.3x)

Despite lower upside participation, the long-short fund outperforms due to lower drawdown — showing the power of downside protection in compounding wealth.

Market Flexibility: Long-Short vs Long-Only Funds

Long-only funds follow the market up and down — which is ideal when:

• The market is in a structural bull run
• Interest rates and liquidity are favorable
• Economic visibility is strong

But long-short funds adapt based on:

• Volatility Index (VIX)
• Global risk-off trends
• Earning downgrades or macro stress

This flexibility helps reduce the impact of black swan events or prolonged bear markets.

Portfolio Role: Alpha, Beta, or Hedge in Long-Short vs Long-Only Funds

Role in Portfolio	Long-Only Funds	Long-Short Funds
Core Equity Allocation	Yes	Partially – works well as a satellite
Tactical Allocation	Limited	Yes – can adjust exposure dynamically
Hedge During Corrections	No	Yes – short positions act as buffers

A sophisticated portfolio might blend both:

• Long-only for beta-driven growth
• Long-short for risk-managed alpha

Compounding Efficiency

Volatility and drawdowns are silent killers of compounding. Consider two investors starting with ₹1 crore:

• Investor A (Long-Only): Gains 30% → Loses 30% → Final corpus: ₹91 lakh
• Investor B (Long-Short): Gains 20% → Loses 10% → Final corpus: ₹1.08 crore

Compounding favors consistency over magnitude. Long-short funds may not always outperform in up years but can protect the base, which is more critical over time.

What’s the Core Difference in Long-Short vs Long-Only Funds?

Feature	Long-Only Equity Funds	Equity-Biased Long-Short Funds
Market View	Always bullish	Flexible (can benefit in up/down markets)
Equity Exposure	90–100% net long	30–90% net exposure
Shorting Capability	Not available	Actively short weak stocks via futures
Volatility Management	Limited (fully exposed)	Built-in hedging via shorts
Risk-Adjusted Returns	High in bull markets	More consistent across market cycles
Drawdown Protection	Low	Moderate to High

Conclusion: Long-Short vs Long-Only Funds — It’s Not Either-Or, It’s About Balance

Long-only equity funds are powerful tools for long-term wealth creation — but they come with a cost: volatility. Equity-biased long-short funds bring in a layer of protection, offering peace of mind and lower volatility, but may lag in raging bull markets.

The real power lies in using them together, aligned to your goals:

• Use long-only for growth.
• Use long-short for stability.
• Let the combination protect your wealth through all seasons.

Who Should Choose What?

Investor Profile	Suitable Strategy	Why It Works
Aggressive growth investors	Long-Only Equity Funds	Full participation in market rallies
First-time equity investors	Long-Only Equity Funds	Simpler strategy to build equity exposure
Risk-conscious HNIs	Long-Short Equity Funds	Reduced drawdowns, better consistency
Retirees or pre-retirees	Long-Short Equity Funds	Capital preservation with moderate growth
Balanced portfolio seekers	Combine Both	Growth from long-only + Stability from long-short

Final Verdict: Blending Growth with Protection

Both strategies serve distinct roles:

• Long-only equity funds maximize growth in bull markets but expose investors to full market risk.
• Equity-biased long-short funds smooth out the journey by actively managing risk and adapting to market regimes.

How PMS AIF WORLD Can Help

At PMS AIF WORLD, we:

• Compare long-short and long-only funds across performance, volatility, and net exposure
• Help you allocate across both for optimal balance
• Assist with product discovery, onboarding, and performance reporting

Explore top-performing equity-biased long-short AIFs and PMS strategies tailored to your risk profile and investment goals.