Gross Exposure

What is Gross Exposure?

Gross exposure refers to the absolute level of a fund's investments. It takes into account the value of both a fund’s long positions and short positions and can be expressed either in dollar or percentage terms. Gross exposure is a measure that indicates total exposure to financial markets, thus providing an insight into the amount at risk that investors are taking on. The higher the gross exposure, the bigger the potential loss (or gain).

Understanding Gross Exposure

Gross exposure is an especially relevant metric in the context of hedge funds, institutional investors, and other traders, who can short and long assets and use leverage to amplify returns. These types of investors are sometimes more sophisticated and have greater resources than regular, long-only investors.

As an example, hedge fund A has $200 million in capital. It deploys $150 million in long positions and $50 million in short positions. The fund's gross exposure is thus: $150 million + $50 million = $200 million.

Since gross exposure equals capital in this case, gross exposure as a percentage of capital is 100%. If gross exposure exceeds 100%, it means the fund is using leverage — in other words, it is borrowing money to amplify returns. Alternatively, gross exposure below 100% indicates a portion of the portfolio is invested in cash.

Gross Exposure Vs. Net Exposure

The exposure of an investment fund can also be measured in net terms. Net exposure equals the value of long positions, minus the value of short positions. 

For example, the net exposure of hedge fund A is $100 million. This is calculated by subtracting $50 million, the amount of capital tied up in short positions, from the $150 million of long holdings.

If net exposure is the same as gross exposure, it means the fund only has long positions. On the other hand, if net exposure is zero, it means the percentage invested in long positions equals investment in short positions, also known as a market neutral strategy.

A fund has a net long exposure if the percentage amount invested in long positions exceeds the percentage amount invested in short position. Likewise, it has a net short position if short positions exceed long positions.

Assume hedge fund B also has $200 million in capital but uses a significant amount of leverage. As a result, it has $350 million in long positions and $150 million in short positions. The gross exposure in this case is thus $500 million (i.e. $350 million + $150 million), while the net exposure is $200 million (i.e. $350 - $150 million).

Gross exposure as a percentage of capital for hedge fund B = $500 million ÷ $200 million = 250%. Fund B's higher gross exposure means that it has a greater amount at stake in the markets than A. Fund B's use of leverage will magnify losses, as well as profits.

Special Considerations

Gross exposure is generally used as the basis for calculating a fund's management fees, since it takes into account total exposure of investment decisions on both the long and short side. Portfolio managers combined decisions will have direct consequences on the performance of a fund and thus distributions to its investors.

An additional method of calculating exposure is a beta-adjusted exposure, also used for investment funds or portfolios. This is computed by taking the weighted average exposure of a portfolio of investments, where the weight is defined as the beta of each individual security.