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CAIA Level II: Advanced Core Topics in Alternative Investments, 2nd Edition by CAIA Association

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36.5 LONG/SHORT RETURN ATTRIBUTION

The benefits and costs of short selling differ between retail investors and institutional investors, and the particular terms and conditions available to various institutional investors vary based on their size, the markets and securities involved, the selection of a prime broker, and so forth. Retail investors must typically post cash collateral on a short sale and are not able to earn interest on the sales proceeds received when shares are sold short. Institutional investors are typically able to earn interest on collateral or to post securities as collateral. Thus, a long/short equity manager could typically post the long positions as collateral on the short positions, thereby generating earnings on the collateral.

The institutional short seller typically receives a short stock rebate on the proceeds of the short sale. The rebate is typically an index-linked variable interest rate (e.g., the federal funds rate) minus the borrowing costs (e.g., 0.15% or 0.25% per year) that the borrower earns on the proceeds of the short sale. In unusual cases of very low interest rates or special-situation securities in which the demand for borrowing is very high, the borrowing costs can exceed the interest revenue, resulting in a negative rebate to the short seller. From the security lender's perspective, the lender is able to borrow money at the rebate rate, a rate below a riskless index, which can presumably be invested at a positive spread relative to the ...

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