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Founder and Chief Executive Officer of the Sury Initiative for Financial Innovation & Risk Management (SIFIRM) at Santa Clara University in California’s Silicon Valley, Sharath Sury devotes his time and energy to the development of real-world solutions to the current economic climate. Sharath Sury has worked with some of the brightest and most experienced experts in finance and risk management through SIFIRM and aims to bring a greater sense of ethics and responsibility to his profession. Through his efforts with SIFIRM, Sharath Sury has established an invaluable forum for the research and discussion of new developments in the world of economics and finance and has attracted a renewed spirit of innovation to the industry.

Issue
Effective portfolio managers recognize that not all returns are created equally.

Examination
Investment strategies can deliver returns that are the result of systematic (market or beta) exposures, nonsystematic (skill or alpha) exposures, and random variation. The relative proportions of alpha, beta, and randomness vary across strategies and even within strategies as they evolve over time. Historically, most investment products have bundled alpha and beta. However, as low-cost, investable proxies for beta grow more pervasive, it is increasingly important for portfolio managers to consider only those actively managed products that are truly delivering incremental alpha. In this article, we introduce a new measure that adjusts product fees to account for the level of alpha delivered—the Alpha Cost Index (ACI).

Conclusion
The ACI levels the playing field by penalizing products that charge active management fees but deliver the preponderance of their returns from beta exposures; thus serving as a useful ranking tool for due diligence.

Keywords: hedge funds, alpha, beta, fees, due diligence

JEL Classifications: G10, G19

Working Paper Series

Date posted: October 06, 2009 ; Last revised: November 04, 2009

Suggested Citation

Sury, Sharath M. and Sury, Manda B, Analytic Due Diligence Using an Alpha Cost Index (April 16, 2006). Available at SSRN: http://ssrn.com/abstract=1482904

Contact Information
Sharath M. Sury (Contact Author)
Santa Clara University ( email )
500 El Camino Real
Santa Clara, CA 95053
United States
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University of California ( email )
Santa Cruz, CA 95064
United States