Portable alpha is an

investment Investment is the dedication of money to purchase of an asset to attain an increase in value over a period of time. Investment requires a sacrifice of some present asset, such as time, money, or effort. In finance, the purpose of investing i ...

strategy in which portfolio managers separate

alpha Alpha (uppercase , lowercase ; grc, ἄλφα, ''álpha'', or ell, άλφα, álfa) is the first letter of the Greek alphabet. In the system of Greek numerals, it has a value of one. Alpha is derived from the Phoenician letter aleph , whic ...

from

beta Beta (, ; uppercase , lowercase , or cursive ; grc, βῆτα, bē̂ta or ell, βήτα, víta) is the second letter of the Greek alphabet. In the system of Greek numerals, it has a value of 2. In Modern Greek, it represents the voiced labiod ...

by investing in securities that are not in the market index from which their beta is derived. Alpha is the

return on investment Return on investment (ROI) or return on costs (ROC) is a ratio between net income (over a period) and investment (costs resulting from an investment of some resources at a point in time). A high ROI means the investment's gains compare favourably ...

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.

Definition

''Investopedia'' defines portable alpha as an investment strategy that focuses on separating "alpha from beta" by investing in stocks, securities, etc. with "little or no correlation with the markets"—assets that are "not in the market index from which their beta is derived".

Background

According to the New York-based trade publication, the ''Institutional Investor'', the

Pacific Investment Management Company PIMCO (Pacific Investment Management Company, LLC) is an American investment management firm focusing on active fixed income management worldwide. PIMCO manages investments in many asset classes such as fixed income, equities, commodities, asset ...

(PIMCO)'s StocksPLUS, introduced in the mid-1980s, was the "first version of the portable alpha strategy". Shortly after the first 30-year

treasury bonds United States Treasury securities, also called Treasuries or Treasurys, are government debt instruments issued by the United States Department of the Treasury to finance government spending as an alternative to taxation. Since 2012, U.S. gov ...

(T-bonds) were issued by the U.S. government, the PIMCO was one of the first investment firms to use these U.S. Treasury futures strategically through its portable alpha concept. From 1986 to 2008, PIMCO managed large numbers of "portable alpha strategies for investors".In response to the creation of "

Interest rate future An interest rate future is a financial derivative (a futures contract) with an interest-bearing instrument as the underlying asset. It is a particular type of interest rate derivative. Examples include Treasury-bill futures, Treasury-bond futures ...

s" on Government National Mortgage Association (GNMA) certificates, by the

Chicago Board of Trade The Chicago Board of Trade (CBOT), established on April 3, 1848, is one of the world's oldest futures and options exchanges. On July 12, 2007, the CBOT merged with the Chicago Mercantile Exchange (CME) to form CME Group. CBOT and three other excha ...

in 1975, the following year, the

Chicago Mercantile Exchange The Chicago Mercantile Exchange (CME) (often called "the Chicago Merc", or "the Merc") is a global derivatives marketplace based in Chicago and located at 20 S. Wacker Drive. The CME was founded in 1898 as the Chicago Butter and Egg Board, an a ...

(CME) created "interest rate futures on 90-day U.S. Treasury bills"
Block 1986
. During the

2008 global financial crisis 8 (eight) is the natural number following 7 and preceding 9. In mathematics 8 is: * a composite number, its proper divisors being , , and . It is twice 4 or four times 2. * a power of two, being 2 (two cubed), and is the first number of t ...

, many portable-alpha programs ran into trouble. In the late 2010s, institutional investors including public pensions, began to take use portable alpha strategies again as "broader markets" became "challenging", according to a 2019 BlackRock publication.

Usage of a Portable Alpha manager

Institutional investors An institutional investor is an entity which pools money to purchase securities, real property, and other investment assets or originate loans. Institutional investors include commercial banks, central banks, credit unions, government-linked co ...

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 Leverage or leveraged may refer to: *Leverage (mechanics), mechanical advantage achieved by using a lever * ''Leverage'' (album), a 2012 album by Lyriel *Leverage (dance), a type of dance connection *Leverage (finance), using given resources to ...

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 In economics, a commodity is an economic good, usually a resource, that has full or substantial fungibility: that is, the market treats instances of the good as equivalent or nearly so with no regard to who produced them. The price of a comm ...

, 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

returns; the second is long/short and market neutral, yielding

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 Investment is the dedication of money to purchase of an asset to attain an increase in value over a period of time. Investment requires a sacrifice of some present asset, such as time, money, or effort. In finance, the purpose of investing is ...

Goldman Sachs Goldman Sachs () is an American multinational investment bank and financial services company. Founded in 1869, Goldman Sachs is headquartered at 200 West Street in Lower Manhattan, with regional headquarters in London, Warsaw, Bangalore, H ...

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.

Notes

References

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Sources

Investopedia

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* Salus Alpha Group Investment