Developing Discipline in Your Trading - Building Alpha

By Jim Farrish | June 30, 2008 | 1:47 AM | 2 Comments

As the market continues to find direction it is important to manage your money versus the market.  This is a phrase I often use when describing money management.  During trend changes or extended trends, investors tend to manage the market by prophesying what they think should be happening. The reality is that the market will do what the market does. The only thing you can control is your money.  This, from my view, is managing alpha. In its Wall Street definition it is described as adding value and outperforming the benchmark of the portfolio.  From my view, it is managing the risk of your portfolio so you can achieve the goal of the portfolio with less risk.

An example of this would be to take the 10 major sectors of the S&P 500 index. Each of these sectors has a weighting to the overall index such as energy at approximately 12% of the total index. Building Alpha to me is determining in my portfolio (assuming I am using the S&P 500 as my portfolio benchmark) if I should  be equal weighted, under or over weighted, or invested at all in the sector. If we take the current environment of the market I would be over weighted energy with about 20% of my portfolio in the sector. Equally, if we took financials which are approximately 17% of the index weighting, I would have zero allocated to that sector.  This is how I manage alpha in my portfolio which in turn is how I manage the risk of my portfolio.

Building alpha in your portfolio is of value if you understand it is not about maximizing performance in your portfolio but, more about managing the risk of your portfolio relative to the risk of the market you are currently invested in short, intermediate and long term. Investing is about what you want as an investor and not about what others tell you, or  trying to beat the market. Focus on YOU!

This is part 4 of a daily educational series Jim will provide for the next few weeks, exclusively here on Greenfaucet.  Click here to read part 3

Another great piece. Nice to Another great piece. Nice to see such accessible commentaries here on greenfaucet Submitted by Bill Clatchy on Mon, 2008/06/30 - 11:13am » reply |

Great Series of Postings! http://globalcapital.blogspot.com Jim, I really like this series of little articles that you've contributed to greenfaucet. They are similar to the types of ideas I write about on my own trading blog, which I post to several times each day. I would be willing to post them to my own blog, if that were something you'd like as well, along with a link to your website or contact info. My blog is a non-profit site, but has a loyal following with about 1000 hits/week. It is totally free (I use it as a trading journal, NOT a profit-seeking commercial site), but I sometimes invite other traders and friends to make contributions. For example, last week, another trader wrote a piece on spread trading futures. If that would be something you would like to do, feel free to go to my blog above and then click through to my OTHER blog and leave some contact info. (Only the OTHER -- much smaller -- blog allows readers to post comments). Thanks for the great insights and sharing your wisdom so freely. Submitted by sbenard on Mon, 2008/06/30 - 11:00am » reply |