832 WordsApr 3, 20174 Pages

Ever wonder if generating alpha is a zero-sum game or if quotes like the below hold:
“Active management can generate alpha for investors and passive investing cannot”
“In a market with low returns active management is better, as alpha becomes more important”
In this post we will establish how much alpha is available in the market, and why statements like the above are simply ridiculous.
To begin, let 's define alpha? Investopedia defines it in the below ways:
A measure of performance on a risk-adjusted basis. The abnormal rate of return on a security or portfolio in excess of what would be predicted by an equilibrium model like the capital asset pricing model (CAPM).*…show more content…*

Worst, are they intentionally confusing the public? I believe it 's the former but let’s elaborate why those claims are false.
Fed Policy and Active vs. Passive Performance
The Fed policy plays no role in whether active or passive management will outperform. It’s the case because as we established here "Passive vs. active", all passive index funds do is copy the active managers. As a quick refresher, the active management community purchases and sells securities on perceived mispricings. By doing this, they establish the values of all the public companies. Passive funds purchase those same securities in the exact same relative weights the active managers have assigned them. Of course, unless not truly passive. For instance, any portfolio that is not value-weighted is active (equal-weighted index is an active portfolio, its bullish small caps). For example, if all active managers combined have assigned 1/10 of their assets to company X, the passive fund will assign 1/10 of its portfolio to company X. If company X produces 10% return throughout the year, both passive and active managers will get the same proportionate return. That is why before fees active and passive managers

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