Statistical measurement
Alpha
Often considered the active return on an investment
Calculates the performance against a benchmark such as a market index since they are considered to represent the market's movement as a whole
The excess returns of a portfolio relative to the return of a benchmark index is the portfolios alpha
Measures risk adjusted return or the actual return an investment provides in relation to the return you would expect based on its beta
If an investments actual return is higher than its beta the security has a positive alpha and if the return is lower it has a negative alpha
If a portfolio’s beta is 1.5 and its benchmark gained 2%, it would be expected to gain 3% (2% × 1.5 = 3%). If the portfolio gained 5%, it would have a positive alpha of 2.
Alpha is often used for funds and other similar investment types where is active management
It is often represented as a single number but this refers to a percentage measuring how the portfolio or fund performed compared to the benchmark
Using alpha in measuring performance assumes that the portfolio is sufficiently diversified so as to eliminate unsystematic or specific risk
Because alpha represents the performance of a portfolio relative to a benchmark, it is considered to represent the value that a portfolio manager adds to or subtracts from its return
Alpha is the return on an investment that is not a result of general movement in the market
An alpha of 0 would indicate that the portfolio or fund is tracing in line with the benchmark index and that the portfolio manager has not added or lost any value
Sharpe ratio
Uses total portfolio risk or standard deviation to measure a fund or portfolio's risk adjusted returns
This measures quantifies a portfolio's return in excess of a benchmark and is appropriate where the portfolio where the portfolio represents the investor's full set of investments
The higher a fund or portfolio's Sharpe ratio, the better its returns have been relative to the risk it has taken on
Because it uses standard deviation, the Sharpe ratio can be used to compare risk-adjusted returns across all investment categories
rp - rf / op
R squared
Measures the relationship between a portfolio and its benchmark
Thought of a percentage from 1 to 100
Not a measure of the performance of a portfolio
A well performing portfolio can have a very low R squared
Purely a measure of the correlation of the portfolio's returns to that of the benchmark's returns
If an investor requires a portfolio that moves like the benchmark, that portfolio would have a need for a very high R squared
If the investor requires a portfolio that doesn't move at all like the benchmark, this would have a low R squared figure
A generated R Squared figure between 70% and 100% would indicate good correlation between the portfolio's return and the benchmarks return
40-70% would be an average correlation between the portfolios return and the benchmarks return with a figure of less than 40% indicating low correlation between the portfolio's return and that of the benchmark
A R squared figure of 100 indicates that all movements of a portfolio can be explained by movements in the benchmark
Portfolios that invest only in FTSE 100 shares will have an R Squared very close to 100
click to edit