Globally more than $50bn (€37.3bn) may be now invested in 130/30 strategies with several different managers, according to a recent Merrill Lynch report.

Those managers include Barclays Global Investors, Goldman Sachs AM, ING IM and UBS Global AM, according to Merrill Lynch’.

“It’s not a fad, this is real and it’s here to stay,” said Ric Thomas, managing director and head of the US enhanced equity group with State Street Global Advisors (SSGA). He claims that these new investment products are the best way to exploit active managers’ skills.

“Everywhere there is a strong demand for them, especially from Dutch and Australian institutional investors, who were the early adopters,” says Thomas.

“Many pension funds are moving into these new strategies, switching assets from traditional long-only equity portfolios or from passive equity portfolios. In a low return environment, people look for better returns and they may feel more confident with managers like us than with hedge funds that can be unpredictable and less transparent.”

SSGA defines a 130/30 strategy as one that goes long 130% of the net asset value and goes short 30% of the same net asset value, keeping a beta of around 1.0 and maintaining full equity market exposure; it is also benchmark orientated, risk controlled and leveraged, since the proceeds of the short positions are reinvested in long positions.

“It represents a regime shift, accelerating the blending between traditional and active managers,” says Thomas. “Long-only constraint prevents managers from taking full advantage of negative information in models. 130/30 strategies gain from the use of hedge fund techniques while providing consistent benchmark orientated equity exposure.”

Being a quantitative manager, SSGA has the advantage of already having models of all major stock universes that rank securities top down. “The problem is that a lot of stocks are virtually weightless so it’s hard to underweight them if you don’t like them,” Thomas adds. “Nor can you avoid investing in them if you have to respect certain sector or style mandate.”

He shows a simulation of two portfolios, based on S&P500 and having the same limit of a 1% maximum overweighting/underweighting: the active share of the long-only one ended up being only 47%, while the active share of the 130/30 portfolio was 71.5%, because it could short-sell the least favoured stocks.

“If your model works, you get much better returns,” concludes Thomas, who admits that things can go wrong so careful monitoring is required. “Additional skills are needed to control risk. We have stop-loss rules that make us buy back stocks that we are short-selling if the companies become a takeover target or if there is little liquidity in the market and it becomes difficult to borrow the stocks.”

The eagerness for better returns looks so strong that new clients jump into the 130/30 strategies even though there are no long-term track records. “We started offering our first 130/30 strategy only in 2004 and we can say that our performances are very positive in most cases, compared both to the benchmark and to a similar long-only portfolio,” declares Thomas, although he declined to be more specific.

According to a recent report by Morningstar that analysed six separately managed accounts that have been around for at least one year, SSGA had the third best total return: 16.4 through 31 March 2007 with its SSGA Index Plus Edge Strategy, compared with 11.8% for both the Russell 1000 index and the S&P500. The JPMorgan Large Cap Core 130/30 did better with 19.3%, and Martingale Enhanced Alpha Large Core 500 returned 16.8%.

Neither did SSGA disclose its precise assets under management in 130/30 strategies: Thomas would only say they have increased by $4bn during the last 12 months and that half of its clients are in the US.

The obvious appeal for the managers is the structure of fees: because 130/30 strategies are hybrids between long-only stock portfolios and hedge funds, fees are performance based.

“But we take a share only of the extra return not of the total return,” points out Thomas, “so if, for example, the 130/30 strategy outperformed the benchmark by 200 basis points, and the performance fee was 25% of the extra return, the final fee would be 50 basis points”.

Still many pension funds do not allow shorting stocks or they have only passive portfolios. “We are doing a lot of education,” says Thomas.

On the other hand some asset managers are starting to offer 130/30 strategies for retail clients. Among others, BlackRock is launching a large cap core plus fund based on that technique.