Alpha (finance)

Ever wondered how you know if an investment is truly beating the market?

Imagine you're comparing a friend's lemonade stand earnings to the average earnings of lemonade stands in your neighborhood. You want to know if your friend's stand is doing better than just being average.

Jensen's alpha helps us figure out if your friend's lemonade stand is earning more than what you'd expect just based on how all lemonade stands are doing. It's like a bonus score showing extra earnings.

Example

If the average lemonade stand earns 100 a day, but your friend's stand earns 110, Jensen's alpha would be $10, indicating your friend's stand is performing better than average.

Remember this

Jensen's alpha tells you if an investment is earning more than you'd expect for its level of risk.

Text adapted from Wikipedia, licensed under CC BY-SA 4.0.

Related concepts

Graham number

Why pay too much for a stock?

Cronbach's alpha

Cronbach's alpha (α) measures internal consistency

Beta (finance)

Beta measures a stock's volatility relative to the market

the Capital Asset Pricing Model (CAPM) says

Ever wondered why some investments seem riskier than others?

Financial risk management

Ever worried about losing more than just your shirt in a bad investment?

delta hedging does

How can you keep your money stable even when stock prices jump around?

Educational content, not financial advice.

Swipe through 100 ML concepts daily

Open Pocket Polymath