Portable alpha

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Portable alpha is a strategy in which portfolio managers separate alpha from beta by investing in securities that are not in the market index from which their beta is derived. Alpha is the return achieved over and above the market return (beta) without taking on more risk. In simple terms, portable alpha is a strategy that involves investing in areas that have little to no correlation with the market.

Usage of a Portable Alpha manager[edit]

Institutional investors typically make use of this type of investment management as an addition to their portfolio. They gain exposure to a portfolio of their desired markets through use of passive investments, and use leverage against this portfolio to invest in the portable alpha manager. As long as the manager returns enough alpha to cover their costs of investing (interest and fees), the investor can port the excess return to his portfolio.

Because market risk is eliminated, an investor might be convinced to invest in asset classes that he may not otherwise wish to invest in, as long as the investor has confidence in the skill of the investment manager. For example, a hospital endowment's investment policy might prohibit investment in commodities, but the board might be convinced that they can circumvent this policy for a portable alpha manager who invests in commodities, because he hedges out his exposure to the commodities market.

Another method is via a so-called 130/30 strategy. The idea is relatively simple: the manager shorts some fixed percentage of the portfolio (in this case, 30%), and uses the proceeds for further purchases. The purchase of additional assets with the full capital from the short sale is made possible by what is called an enhanced prime brokerage structure. This raises the long portion of the portfolio to 130% of the original investment capital. The net effect of this strategy is to separate the portfolio into two portions: the first portion is long only, yielding beta returns; the second is long/short and market neutral, yielding alpha returns. The strategy allows managers to bet against specific stocks they believe to be over-valued, rather than being restricted only to stocks they believe will increase in value (as is the case in a long-only portfolio). For example, investment bank Goldman Sachs Asset Management’s model global long-only portfolio invests in around 200 stocks; by comparison its Global Flex model portfolio (following a 130/30 strategy) invests in approximately 250 stocks and shorts about 100 – giving a total of some 350 names.

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