Investment what is alpha

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The Ariel mutual funds referred to in this site may be offered only to persons in the United States. Your Practice. Popular Courses. What Is Alpha? Key Takeaways Alpha refers to excess returns earned on an investment above the benchmark return.

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This compensation may impact how and where listings appear. Investopedia does not include all offers available in the marketplace. Related Terms Excess Returns Excess returns are returns achieved above and beyond the return of a proxy. Excess returns will depend on a designated investment return comparison for analysis. What Is Weighted Alpha? Weighted alpha measures the performance of a security over a certain period, usually a year, with more importance given to recent activity.

What Is the Treynor-Black Model? The Treynor-Black model is a portfolio optimization model that consists of an active portfolio and a passively managed market portfolio. Sharpe Ratio Definition The Sharpe ratio is used to help investors understand the return of an investment compared to its risk. Characteristic Line Definition A characteristic line is a line formed using regression analysis that summarizes a particular security's risk and return profile.

Alpha Generator An alpha generator is a security that generates excess returns or returns higher than a benchmark, with no added risk, when added to a portfolio. Partner Links. Related Articles. Investing Essentials Alpha Vs. To investors, this signals that tech stocks offer the possibility of higher returns but generally pose more risks, while utility stocks are steady earners.

Risk-averse investors such as retirees seeking a steady income are attracted to lower beta. Risk-tolerant investors who seek bigger returns are often willing to invest in higher beta stocks. Here is a useful formula for calculating beta :.

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I Accept Show Purposes. Your Money. Personal Finance. Your Practice. Popular Courses. Investing Investing Essentials. With this calculation, you subtract the risk-free rate of return ROR from the expected return, and then subtract the beta to get to the risk premium. You would then multiply this premium by the market benchmark return minus the risk-free rate of return. The calculation looks like this:. Your alpha calculation would then be: 12 — 10 — 1. This means that the alpha is 0.

This positive percentage means the portfolio is outperforming the market. It is worth noting that the alpha of a portfolio is subject to change if the positions become subjected to larger amounts of volatility — causing the beta to change.

Alpha can give fund managers a general idea of how their portfolios are performing against the rest of the market. In trading and investing, alpha can be helpful tool for establishing market entry and exit points.

Using alpha as a method to calculate returns has its limitations — it cannot be used to compare different investment portfolios or asset types, as it is restricted to stock market investments. There is a lot of debate about the accuracy of alpha as a measurement. According to the efficient market hypothesis EMH , all securities are properly priced at all times, so it would be impossible to identify and take advantage of mispricing.