Alpha

1. A measure of a mutual fund's risk relative to the market. The formula for alpha is the following:

[ (sum of y) - ((b)(sum of x)) ] / n

Where:
n = number of observations (36 mos.)
b = beta of the fund
x = rate of return for the market
y = rate of return for the fund

2. The abnormal rate of return on a security or portfolio in excess of what would be predicted by an equilibrium model like the Capital Asset Pricing Model (CAPM).

1. An alpha of 1.0 means the fund outperformed the market 1.0%. A positive alpha is the extra return awarded to the investor for taking additional risk rather than accepting the market return.

2. If a CAPM analysis estimates that a portfolio should earn 10% based on the risk of the portfolio but the portfolio actually earns 15%, then the alpha of the portfolio would be 5%. This 5% is the excess return over what was predicted in the CAPM model.