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wquant


Total Posts: 2
Joined: Nov 2019
 
Posted: 2019-11-29 02:03
Hi All,

If I have a portfolio where I am always long 25M, and also have varying daily short exposure from 0 - 25M

I would like to know what the industry standard is for calculating returns of long/short equity portfolios. What is the denominator in the return calculation?

As far as I can tell there are a few options
1) Use the notional value of the entire portfolio (value of longs plus the absolute value of short positions)
2) Portfolio NAV (value of the long stocks + cash proceeds from the sales - value of the short stocks)
3) Fixed Daily AUM value (eg. 25M which covers the long positions)
4) Something else

This is probably quite a simple question, but it's not clear to me which option is the best way to go about it.

Thanks,

ps. First time poster but have followed the forum for some time. Very grateful for this website and the contributors here.

longGamma


Total Posts: 16
Joined: Jan 2019
 
Posted: 2019-11-29 02:18
(1) GMV: gross market value.

With (1), you can infer the return on capital.

wquant


Total Posts: 2
Joined: Nov 2019
 
Posted: 2019-11-29 10:46
Thanks longGamma

As a follow-up question about short selling.

Can anybody point me towards good information about how to backtest as accurately as possible - by including lending fees, paying dividends on borrowed stocks, finding out if the stocks were available to short in the first place, the interest you earn on cash from selling stocks.

When backtesting how much of this is absolutely essential?

ronin


Total Posts: 512
Joined: May 2006
 
Posted: 2019-11-29 15:43
> by including lending fees,

Yes. But if you are sticking to a liquid universe, you are usually ok for a flat rate across the short portfolio.

> paying dividends on borrowed stocks,

Yes, of course

> finding out if the stocks were available to short in the first place,

Really depends on what the universe is and the size. If it's liquid stuff in small sizes, it shouldn't be a great concern. Size effects will be significant, but that is not your concern on day 1.

> the interest you earn on cash from selling stocks.

Yes.

You are still missing trading costs, slippage and settlement costs.

"There is a SIX am?" -- Arthur

longGamma


Total Posts: 16
Joined: Jan 2019
 
Posted: 2019-11-29 19:32
Explicit costs: commissions, borrow rates and availability.
The latter can be sourced from prime broker lending desks.

It's important in practice, but if you don't have borrow data, assume GC rate for liquid US stocks and ignore availability.

Implicit cost: market impact matters when trading at size.
This is a deep topic and a full-time job at large funds. If you plan on trading less than 5% ADV in each name, can assume between 5-10 bp two-way market impact.

MI is a function of spread, volume, depth, volatility, trading size... For an introduction, see DB Equity Market Impact Models. Beware, one needs lots of data to fit an accurate model. It's usually best left to brokers.
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