Alpha (α) is a term which describes returns from investments over and above a particular predefined benchmark.
By adopting an active investment management strategy (that is, investing in a manner which does not merely track a benchmark), you aim to beat a benchmark. As an investment manager, you will often be benchmarking your performance against an index like the FTSE 100.
For example, by actively investing you generate 8% returns this year. Assume you’re benchmarking yourself against the FTSE 100. If the FTSE 100 were to generate 3% in the same year, then your alpha would be 5%.
Securities lending is an example of an alpha-generating strategy. Lending your securities, whether your investment strategy is active or passive, will allow you to outperform the benchmark. Securities lending is a major reason why some passive investment funds are able to outperform the benchmark they are tracking.
Alpha is used in finance to measure the performance of investment managers and is one of five popular technical risk ratios intended to help investors assess the risk-reward of strategies.
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