Skip to main content

High Alpha Funds or Low Beta Funds


 
 
For investors in actively managed equity mutual funds, the worth of a fund lies in how much return it is able to generate over that given by the relevant benchmark. So, at a basic level, the choice of fund will have to be driven by how much value a fund manager is adding vis-a-vis an index.

Alpha, which measures this value addition, is often taken as a metric to gauge fund performance. Investors who seek outperformance would be drawn towards funds running a higher alpha. But can investors always benefit from the pursuit of high alpha?

IMPORTANCE OF ALPHA

Simply told, alpha is the excess return delivered by a fund over its benchmark index. But more precisely , it is the excess return or value generated by a fund manager over the fund's expected return. This expected performance is based on the risk taken by the fund manager relative to the market, which is defined by beta.

Thus, a fund's alpha is derived from its underlying beta. A beta value of 1.5 indicates the fund would deliver 1.5% return for every 1% gain in the value of its underlying index.

Suppose a fund with a beta of 1.5 delivers a return of 18% over a certain period while its underlying benchmark index posts 12% returns. Given the beta, the fund manager would be expected to deliver a return of 18% (12%*1. 5). So, in this case, the fund manager has actually failed to generate alpha even though the fund has delivered 6% excess return over its benchmark.

If the fund delivered a return of 20% for the same underlying risk, the alpha generated would be 2%. Which implies that alpha represents the fund manager's expertise in stock selection or portfolio building. Most top-performing funds over longer time periods boast of a high alpha. In most cases, if a fund has generated high alpha in the past, it is likely to generate the same in the future too. Thus, it would bode well for investors to pay attention to a fund's alpha when selecting equity funds.

However, experts insist that consistency in delivering alpha is critical. Certain funds are good at delivering alpha only during a market uptrend.The fund should show consistency in generating alpha across various time frames and market cycles. Alpha can be a good indicator of a fund manager's ability provided there is consistency in the philosophy and processes driving the portfolio selection. Also, bear in mind that extent of alpha varies between fund categories. Typically, mid-cap oriented equity funds are able to deliver higher alpha than large-cap oriented ones. While mid-cap funds can comfortably clock alpha in excess of 8-10%, alpha in large-cap funds is typically lower.

WHERE ALPHA MAY NOT WORK

Alpha as a metric has a few shortcomings, which can make its extensive use counter-productive. First, alpha depends on the underlying benchmark index for the fund. Even though we may measure it in absolute terms, alpha is actually a relative measure dependent on market proxy . This can have several implications.

It can prevent effective comparison between funds, even within the same fund category . Since different equity funds within the same category also tend to be benchmarked against different indices, the alpha statistic will measure outperformance relative to that benchmark. You can end up comparing apples to oranges.

Besides, since it measures performance relative to beta, the accuracy of alpha depends on the credibility of the beta measure. The beta value of a fund may be flawed if its correlation to the underlying index is very low. So, a fund's alpha may be misleading if it does not have high correlation to the benchmark it is being compared with.
 

Another gripe analysts have with using alpha is that it is ignorant of the risk-adjusted performance. While it measures excess return given the level of market risk, it makes no adjustment for the risk involved in delivering that additional performance. As such, experts insist that alpha should not be used in isolation while picking funds.It should be supplemented with other metrics to really gain true understanding of the performance of the fund. Investors give equal importance to the underlying risk.  Go with a fund offering healthy alpha but lower beta.

Birla Sun Life Pure Value, for example, has delivered a healthy alpha of 10% over the past five years with a beta of 1.06. Its peer in the same category , BNP Paribas Midcap Fund has delivered similar return although at a lower beta of 0.83. Belapurkar says just looking at alpha does not provide the entire picture. Investors need to dissect the number further to see where the alpha is actually coming from. If it is due to a high risk taken by the fund manager, then it could be a red flag. Investors need to consider other risk factors apart from beta.

For instance, a large-cap fund taking high exposure to midor smallcap stocks would likely fetch a high alpha but that doesn't reflect the fund manager's acumen. Finally, investors should understand that past performance is not and never should be relied on as indicator of future performance.

 Buy Mutual Fund Online

-----------------------------------------------
Invest Rs 1,50,000 and Save Tax under Section 80C. Get Great Returns by Investing in Best Performing ELSS Mutual Funds

Top 10 Tax Saver Mutual Funds to invest in India for 2017

Best 10 ELSS Mutual Funds in India for 2017

1. BNP Paribas Long Term Equity Fund

2. Axis Tax Saver Fund

3. Franklin India TaxShield

4. ICICI Prudential Long Term Equity Fund

5. IDFC Tax Advantage (ELSS) Fund

6. Birla Sun Life Tax Relief 96

7. DSP BlackRock Tax Saver Fund

8. Reliance Tax Saver (ELSS) Fund

9. Religare Tax Plan

10. Birla Sun Life Tax Plan

Invest in Best Performing 2017 Tax Saver Mutual Funds Online

Invest Online

Download Application Forms

For further information contact Prajna Capital on 94 8300 8300 by leaving a missed call

---------------------------------------------

Leave your comment with mail ID and we will answer them

OR

You can write to us at

PrajnaCapital [at] Gmail [dot] Com

OR

Leave a missed Call on 94 8300 8300

-----------------------------------------------

Popular posts from this blog

Tata Mutual Fund

Being a part of the Tata group, the fund has the backing of a very trusted brand name with strong retail connect. While the current CEO has done an excellent job in leveraging the Tata brand name to AMC's advantage, it is ironic that this was just not capitalised on at the start. Incorporated in 1995, Tata Mutual Fund remained an 'also-ran' fund house for around eight years. Till March 2003, it had a little over Rs 1,000 crore in assets and 19 AMCs were ahead of it. But soon after that the equation changed. It was the fastest growing fund house in 2004 and 2005. During these two years, it aggressively launched six equity funds, two debt funds and one MIP. The fund house as of now stands at No. 8 in terms of asset size. This fund house has a lot to offer by way of choice. And, it also has a number of well performing schemes. Tata Pure Equity, Tata Equity PE and Tata Infrastructure are all good funds. It also has quite a few good debt funds. The funds of Tata AMC are known to...

UTI Mutual Fund

Even though only a few of UTI’s funds are great performers, this public sector fund house has many advantages that its rivals do not. It has a huge base of retail equity investors and a vast distribution network. As a business, it looks stronger than ever, especially in the aftermath of credit crunch. UTI is, by a large margin, the most profitable fund company in the country. This is not surprising, since managing equity funds is more profitable than debt. Its conservative approach and stable parentage is likely to make it look more attractive to investors in times to come. UTI’s big problem is the dragging performance that many of its equity funds suffer from. In recent times, the management has made a concerted effort to improve performance. However, these moves have coincided with a disastrous phase in the stock markets and that has made it impossible to judge whether the overhaul will eventually be a success. UTI’s top performers are a few index funds, some hybrid funds and its inf...

Salary planning Article

1. The salary (basic + DA) should be low. The rest should come by way of such allowances on which the employer pays FBT and you don't pay any tax thereon. 2. Interest paid on housing loan is deductible u/s 24 up to Rs 1.5 lakh (Rs 150,000) on self-occupied property and without any limit on a commercial or rented house. 3. The repayment of housing loan from specified sources is also deductible irrespective of whether the house is self-occupied or given on rent within the overall ceiling of Rs 1 lakh of Sec. 80C. 4. Where the accommodation provided to the employee is taken on lease by the employer, the perk value is the actual amount of lease rental or 20 per cent of the salary, whichever is lower. Understandably, if the house belongs to a family member who is at a low or nil tax zone the family benefits. Yes, the maximum benefit accrues when the rent is over 20 per cent of the salary. 5. A chauffeur driven motor car provided by the employer has no perk value. True, the company would...

8 Investing Strategy

The stock market ‘meltdown’ witnessed since the start of 2005 (notwithstanding the recent marginal recovery) has once again brought to the forefront an inherent weakness existent in our markets. This is the fact that FIIs, indisputably and almost entirely, dominate the Indian stock market sentiments and consequently the market movements. In this article, we make an attempt to list down a few points that would aid an investor in mitigating the risks and curtailing the losses during times of volatility as large investors (read FIIs) enter and exit stocks. Read on Manage greed/fear: This is an important point, which every investor must keep in mind owing to its great influencing ability in equity investment decisions. This point simply means that in a bull run - control the greed factor, which could entice you, the investor, to compromise with your investment principles. By this we mean that while an investor could get lured into investing in penny and small-cap stocks owing to their eye-...

Debt Funds - Check The Expiry Date

This time we give you an insight into something that most debt fund investors would be unaware of, the Average Portfolio Maturity. As we all know, debt funds invest in bonds and securities. These instruments mature over a certain period of time, which is called maturity. The maturity is the length of time till the principal amount is returned to the security-holder or bond-holder. A debt fund invests in a number of such instruments and each of these instruments would be having different maturity times. Hence, the fund calculates a weighted average maturity, which would give a fair idea of the fund's maturity period. For example, if a fund owns three bonds of 2-year (Rs 30,000), 3-year (Rs 10,000) and 5-year (Rs 20,000) maturities, its weighted average maturity would be 3.17 years. What is the big deal about average maturity then, you may ask. Well, knowing a fund's average maturity is important because it tells you how sensitive a fund is to the change in interest rates. It is ...
Related Posts Plugin for WordPress, Blogger...
Invest in Tax Saving Mutual Funds Download Any Applications
Transact Mutual Funds Online Invest Online
Buy Gold Mutual Funds Invest Now