By Saksham Arora When we hear about mutual funds, we often come across the terms Alpha and Beta. At first they may sound a little confusing. But don’t worry; let’s break them down in the simplest way possible. Imagine you invested in a mutual fund, after a year you find out your investment gave better returns than expected. You might wonder, how did it perform so well? Was it just the market going up? Or did the fund manager make smart decisions?
That’s where Alpha Beta comes in. These two numbers help you understand how well a mutual fund is performing and how risky it is compared to the market. Let’s now understand each one step by step.
What is Alpha?
Alpha tells us how much extra return a mutual fund has given compared to the market. It shows the performance of the mutual fund after removing the effect of the market movement.
Simple Meaning
Alpha tells you whether the fund manager is doing a good job or not.
Positive Alpha (like +2) means the fund did better than the market. It means it outperformed the market.
Negative alpha means it has underperformed its performance than the market.
Zero Alpha means the fund did the same as market.
Example of Alpha
Let’s say the stock market went upto 10% this year. But your mutual fund went up to 13%. So the alpha is 3%.
What is Beta?
Beta tells us the volatility of the market. It tells how much a mutual fund’s value goes up or down compared to the market. It shows the risk level or volatility of the fund.
Beta = 1 the fund moves the same as the market.
Beta >1 the fund is more risky than the market.
Beta < 1 the fund is less risky than the market.
Example of Beta
Suppose the market goes up or down by 10%. If your mutual fund has Beta of 1.2, then it will likely go up or down by 12%. That means it is more sensitive to market movements, so there is higher risk but also possibly higher return. If the Beta is 0.8 then your fund will likely move only 8% when the market moves 10%. That’s less risky.
Why you should care about Alpha and Beta
Knowing Alpha and Beta helps you choose the right mutual fund based on:
- Your Risk level
- Your return expectations
If you Are a safe Investor
Look for funds with low Beta and positive Alpha. That means you are taking less risk but still getting better return.
If you are okay with more risk
You might go for a fund with high Beta (more ups and down) and high Alpha (more reward for that risk).
Conclusion
Alpha and Beta may sound technical, but they are actually simple tools to help you understand how a mutual fund is performing and how risky it is. Think of Alpha is a scorecard for the fund manager and Beta as the mood meter, how jumpy or calm your fund is.