By: Edward Kung & Larry Pohlman
Published: Benefits and Pension Monitor, February 2004

Excerpts:

Active investment managers provide two types of return – the return generated from market exposure or ‘beta’ and the return that comes from selection skill or ‘alpha.’ Active ‘beta’ returns typically come from market timing – that is, increasing market exposure in up-markets and decreasing it in downmarkets.  Passive beta returns come from index fund exposure. ‘Alpha’ comes from security selection within an asset class. As such, the value-added from a true alpha strategy does not depend upon the direction of the market. A true stock-picker, for instance, would have a beta of 1.0 relative to their market benchmark, and all value-added would come from their ‘active risk’ or stock picking. Portable alpha refers to the process of separating the alpha from the beta and then applying it to other portfolios”.

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