Adoption of Short Selling in Stock Portfolios: Performance of Brazilian Investment Funds Long Only Vs. Long/Short

Abstract

This paper aims to identify the effect of short selling in equity portfolios on alpha generation and changes in sensitivity to risk factors. Two groups of investment funds were created, comprising long/short and long-only strategies. Data were collected from January 2013 to December 2015, January 2016 to December 2019, and January 2020 to December 2022, and a 5-factor Fama-French model was applied and subsequently compared. Regression models were used to identify quantitative and qualitative factors influencing the observed alpha differences. The results indicate that short strategies hinder alpha generation in uptrends and assist in downtrends; however, they affect only beta sensitivities during risk-aversion periods. Additionally, the intensities and significance of the factors vary with the observed time window, although market size and conservatism remain more representative of the groups. The data suggest that, on average, managers have higher competence in generating alpha during market uptrends, but this ability is compromised in downturns and uncertain scenarios. Finally, it is pointed out that there is a penalty for intensifications in redemptions and lock-up premiums.