Manager Alpha
Overview
The terms manager alpha has been used to mean various things, depending on the context. At a general level,
manager alpha just refers to the managers ability to pick assets such that they outperform an index, or
expectations based on the risks that the manager takes.
In a more formal context, alpha refers to specific measurement of the managers skill to outperform the
risk factors present in the managers portfolio.
Portable Alpha
Portable alpha utilizes the ideas of
APT and Factor Investing
to try to measure the excess return that a manager has earned, over and above the returns generated from the
risks that the manager took. The fundamental equation of return in APT is given as
{% r = \alpha + \sum \beta_{j}f_j + \epsilon_i %}
where {% f_j %} are factor risks, {% \beta_j %} are the factor exposures and {% \alpha %} is the manager skill over and above
the factor risks.
When there is a
Single Factor Risk,
usually a benchmark for the fund, such as the S&P500 or other index, the equation becomes
{% r = \alpha + \sum \beta f + \epsilon %}
which is the
CAPM model.
