Question

Suppose you tell a financial advisory client that their portfolio experienced a positive Alpha of 2.4%. The market as a whole returned 12%. A rational response of your client would be:

Select one:

a. Well done. You beat the market on a risk adjusted basis for this period.

b. I will not settle for a 2.4% return when the stock market is doing so well.

c. I would need more information to decide if you did well or not.

d. Can you feed my Poodle when I am out of town next week?

Answer 1

It is supposed that I told my financial advisory client that their portfolio experienced a positive Alpha of 2.4%. Whereas, the market as a whole returned 12%. A rational response of my client was : (a) Well done. You beat the market on a risk adjusted basis for this period. The term "Alpha" is used in the subject field of Finance. It's actually a measure to observe/determine the performance which indicates whether a financial strategy, trader or manager holding portfolios has actually managed to beat and each more than the market return over a period of time. Alpha is the term most commonly used for the return that an investor actively gets on an investment, helps to estimate the active performance of a particular investment by an investor against an index of the market. And the excess return on the particular investment undertaken by an investor relative to the return of the market index, depicts Alpha (in investment term). The value of Alpha can be negative or positive and therefore, can also be considered as the result of active investment by an investor. Alpha, is most oftenly, used to rank the active investments by an investor, say, for example, an investment in Mutual Funds and so on. Alpha, most oftenly, is denoted as a single numeral, say, for example, +2% and -7%, these are basically the percentages which are used to determine whether funds or portfolios performed well or not as compared to the market benchmark index. Say, here the examples that we took above, a positive value of return (Alpha), +2%, indicates a better performance, whereas a negative value of 7% of Alpha indicates a worst performance of the investment undertaken. So, here, in this case, my client was really very satisfied with an excess/abnormal rate of return (i.e., 2.4% of Alpha) against a benchmark market index of 12%, which basically referred my client to one of the thoughts like Markets are efficient and hence there is no path to earn returns that is above the return yield of the market as a whole.