Friends in the investment analysis report, often see alpha α. The Greek letter is unremarkable, but it feels mysterious. So, what exactly is alpha?
Alpha (α) is an investment term used to describe the ability, or "advantage" of an investment strategy, to beat the market. As a result, alpha is also often referred to as "excess return" or "abnormal rate of return". It is often said that if one market is effective, there will be no way for investors to systematically earn more than the entire market. Alpha is often used with beta (the Greek letter β), which measures overall volatility or risk in a broad market, i.e. systemic market risk. Or we could say that β is the market's systemic risk-reward.
Alpha is used in finance as a measure of performance, which indicates that a strategy, trader or portfolio manager has successfully exceeded the market's return over a period of time. Alpha is often considered a positive return on an investment, which measures the performance of an investment based on a market index or benchmark, which is considered to represent the movement of the entire market. In our A-share market, the market index can usually be measured by the Shanghai 50, CSI 300 or CSI 500 index.
The excess return on an investment relative to the benchmark index is the alpha of that investment. This number can be positive or negative, and both positive and negative are the result of active investment. Beta, on the other hand, can be obtained through passive index investments. For example, we usually invest in CSI 300 ETFs and SSE 50 ETFs, which are passive investments.
To sum up, alpha has the following characteristics:
Alpha refers to the excess return on an investment on top of the benchmark return.
Active portfolio managers seek to generate alpha in a diversified portfolio that aims to eliminate non-systemic risk.
Because alpha represents the performance of a portfolio relative to the benchmark, it is often thought to represent the portfolio manager's increase or decrease in fund returns.
Alpha is one of the five popular technology investment risk ratios. The others are beta, standard deviation, R-squared, Sharpe ratio. These are all statistical measures used in modern portfolio theory (MPT). All of these indicators are designed to help investors determine the risk-reward profile of their investments. In other words, through these indicators, investors can choose investment products with different risk preferences.
Active portfolio managers seek to generate alpha in a diversified portfolio that aims to eliminate non-systemic risk. Because alpha represents the performance of a portfolio relative to the benchmark, it is often thought to represent the portfolio manager's increase or decrease in fund returns. In general, most stock investors want to generate excess returns by actively investing.
In other words, alpha is a return on investment, it is not the result of a general movement in large markets. Therefore, an alpha value of 0 indicates that the portfolio or fund fits perfectly with the benchmark index, and the fund manager does not add or lose any additional value compared to the broader market. It is worth noting that there are some new statements in the market at present, especially the concept of smart beta β, which makes the concept of alpha more deeply rooted in people's hearts.
Despite alpha's considerable appeal in a portfolio, many index benchmarks beat the gains of investors, even professional investors, most of the time. As this trend becomes more and more understood, leading to a growing lack of confidence in traditional financial advisors, more and more investors are turning to low-cost, passive online advisors (often referred to as machine advisors) who invest their clients' funds only or almost exclusively in index-tracked funds. The logic is very simple: since we can't beat the market, we can just join the market, and in doing so, we can at least get the average market return.
In addition, since most "traditional" investment managers charge management fees and performance sharing, when a person manages a portfolio and gets an alpha value of zero, taking into account the management fee and performance sharing, this is actually a loss for investors. Many times we buy those active investment wealth management products, the actual final income is not as high as buying some indexes or not as high as the income of fixed investment index funds.
Efficient market hypothesis theory assumes that market prices contain all available information at all times, so that securities are always priced correctly (the market is efficient). Therefore, according to the efficient market hypothesis, there is no way to systematically identify and exploit mispricing in the market because they do not exist. If mispricing is discovered, they are quickly arbitraged, so there are often few patterns of persistent market anomalies that can be exploited.
Empirical evidence comparing the historical rates of return of active funds with passive benchmark funds shows that less than 10% of all active funds can obtain positive alpha in more than 10 years, and this proportion will decline if taxes and fees are taken into account. In other words, alpha is hard to come by, especially after taxes and fees. Thankfully, china currently does not impose taxes on investors investing in private equity funds.
Since beta risk can be isolated by spreading and hedging various risks (which come with various transaction costs), some argue that alpha doesn't really exist, it simply represents compensation for some unhynched risk that hasn't been identified or ignored.
Alpha is often used to rank active (active) funds as well as all other types of investments. It is usually expressed as a single number (such as +3.0 or -5.0), which usually refers to a percentage that measures the performance of a portfolio or fund compared to a benchmark index (e.g., 3% good or 5% difference).
An in-depth analysis of alpha also includes "Jensen's alpha." Jensen's alpha considers the capital asset pricing model (CAPM) market theory and includes a risk-adjusting component in its calculations. CAPM uses betas (or beta coefficients), which calculate the expected return of an asset based on a specific beta of the asset itself and the expected market return. Alpha and Beta are used by investment managers to calculate, compare and analyze returns.
The entire investment sector offers investors a wide selection of securities, investment products and advisory. Different market cycles also have an impact on investment alphas in different asset classes. This is why it is important that the risk-reward indicator is considered together with alpha. To put it simply, while we pursue high returns, we must consider the corresponding risks, and there is no point in talking about returns aside from risks. Therefore, in the process of investing in products, we generally consider a concept, that is, drawdown.
However, foreign research shows that actively managed fund managers are not always so successful in achieving alpha ratios across funds and portfolios across the investment spectrum. Statistics show that over the past 10 years, 83 percent of active funds in the U.S. have failed to meet the benchmark of their choice. Experts attribute this trend to a number of reasons, including:
The expertise of financial advisors is constantly growing
More and more advanced financial technologies and software are available
Due to the development of the Internet, there are more and more opportunities for potential investors to participate in the market
The percentage of investors who take on risk in their portfolios is getting smaller and smaller
More and more money is being invested in the pursuit of alpha, diluting alpha's earnings
While alpha is known as the "holy grail" in investing and therefore receives a lot of attention from investors and investment advisors, there are several important considerations to consider when using alpha.
Alpha's basic calculation method is to subtract a comparable benchmark from the total return of the asset class. This alpha calculation is primarily for comparable asset class benchmarks. Therefore, it does not measure the performance of equity ETFs relative to fixed income benchmarks. In simple terms, when comparing returns, you can't compare the returns of stocks with the returns of bonds. Of course, when it comes to asset allocation, we still consider risk-free returns.
When using generated alpha calculations, it is important to understand the calculations involved. Alpha values can be calculated using different index benchmarks within an asset class. In some cases, there may not be a suitable pre-existing exponential benchmark, in which case an algorithm and other models may be used to simulate the exponent in order to compare alpha calculations.
In short, the pursuit of higher returns is the concern of every investor. But in the end most of the time we will find that this pursuit is often futile.