Enterprising Investor Forum

Understanding Alpha Friday, May 16, 2008

We ofter hear talk of investors seeking ‘alfa’ or wanting to know what the ‘beta’ is but what do they actually mean? Well, here goes an attempt to try and simplify these terms:

• Alfa: essentially, this is simply a measure of risk-adjusted performance. It will tell you how a stock or fund has performed relative to the benchmark. For example, if the figure is 2.0, it means 2% above the index and -2.0, 2% below.
• Beta: measures volatility, or what is called ‘systematic risk’, of a stock vs. the whole market. The actual calculation is made through regression analysis but basically, you should just keep in mind that it will give you an idea of how the stock is likely to react/respond to market movements. A beta of 1.0 means that the stock will tend to move in-line with the market, under 1.0 that it is less volatile and above 1.0 that it is more volatile (i.e. 1.5 will indicate a tendency to be 50% more volatile than the market).

We hope that this makes things a bit easier to understand.