What is alpha?

Alpha, explained

In its simple form, alpha is the investment's return minus the benchmark's return over the same period. In the more formal version from the capital asset pricing model, the expected return is first adjusted for the investment's beta, its sensitivity to market moves.

Positive alpha over one short period is easy to get by luck. It becomes meaningful only over a long, live track record, across different market conditions, and after fees and trading costs.

Marketing for stock tools often uses "alpha" loosely. When you see a claim, ask what benchmark it is measured against, over what dates, whether it is risk-adjusted, and whether it comes from live picks or a backtest.

Example

If a portfolio returned 15% in a year when the S&P 500 returned 11%, its simple alpha against that benchmark was 4 percentage points, before any adjustment for risk.

Related terms

• Benchmark (S&P 500)A benchmark is a standard used to judge investment performance; for US stock tools it is usually the S&P 500, an index of about 500 large US companies weighted by market value.
• BacktestingBacktesting is testing a trading or investing rule on historical market data to see how it would have performed had it been followed in the past.
• OverfittingOverfitting is when a model or trading rule is tuned so closely to historical data that it captures noise instead of a lasting pattern, so it performs well in backtests but poorly on new data.
• Survivorship biasSurvivorship bias is the error of judging results only from the stocks, funds or strategies that still exist, ignoring those that failed or disappeared, which makes past performance look better than it was.

Where this matters

Alpha comes up most when choosing AI stock pickers. See Best AI stock pickers for the tools we compare, with dated prices.