“Alpha” (also called excess return or active return is a frequently used metric in finance to measure the success of an investment manager. It is defined as a level of return generated over and above a related index or benchmark.
For example, if Stock A has an alpha of 10%, then it is performing at 10% better than the benchmark stock index, for example the S&P 500.
While alpha is a quick way to determine an investment manager’s success relative to the market, one should also be aware of the risk (or beta) associated with the investments.
In addition, both alpha and beta are backward-looking ratios and do not take into account any unanticipated changes in business environment. High alpha value now does not guarantee high alpha for the next year.
The formula below calculates the alpha of a specific asset. In the context of the stock market, DPS usually refers to the dividend of a stock, whereas in the cryptocurrency market, DPS can be measured by income generated through “staked” coins within a proof-of-stake environment.