Jensen’s alpha, also sometimes referred to as the ex-post alpha, essentially measures how much extra a portfolio has earned above the return predicted by capital asset pricing model (CAPM). This ratio was developed by American economist Michael Jensen in 1968. Mathematically, the Jensen’s alpha is calculated as follows:
Jensen’s alpha = R(i) – (R(f) + B x (R(m) – R(f)))
- R(i) = the realized return of the portfolio or investment
- R(m) = the realized return of the appropriate market index
- R(f) = the risk-free rate of return for the time period
- B = the beta of the portfolio of investment with respect to the chosen market index
A positive Jensen’s alpha indicates that the managers of the fund, through careful stock selection, have been able to extract higher returns than the market. Furthermore, an investor should also look at the amount of return a fund has generated compared to the risk involved. It is because investors need to be aware of a properly calculated measure of total return from an investment against the inherent risks involved.
3 Best Choices
Also known as the Jensen’s Performance Index, it measures the return of an investment compared to its expected risk-adjusted return. We have, thus, selected three mutual funds carrying a Zacks Mutual Fund Rank #1 (Strong Buy) that are poised to gain from such factors. Moreover, these funds have encouraging year-to-date (YTD) and one-year returns.
Additionally, the minimum initial investment is within $5000 and each of these funds has a high three-year alpha. A positive alpha indicates that the portfolio manager was able to earn substantial return compared to the additional risk taken over the entire period of investment.
We expect these funds to outperform their peers in the future. Remember, the goal of the Zacks Mutual Fund Rank is to guide investors to identify potential winners and losers. Unlike most of the fund-rating systems, the Zacks Mutual Fund Rank is not just focused on past performance, but also on the likely future success of the fund.
The question here is: why should investors consider mutual funds? Reduced transaction costs and diversification of portfolio without several commission charges that are associated with stock purchases are primarily why one should be parking money in mutual funds (read more: Mutual Funds: Advantages, Disadvantages, and How They Make Investors Money).
Fidelity Advisor Series Growth Opportunities Fund (FAOFX – Free Report) seeks growth of capital by investing primarily in common stocks. The fund invests in securities of only those companies, which the Fidelity Management & Research Company (FMR) believes have above-average growth potential. FAOFX invests in securities of both U.S. as well as non-U.S.-based companies.
This Sector- Large Cap Growth product has a history of positive total returns for more than 10 years. To see how this fund performed compared in its category, and other 1 and 2 Ranked Mutual Funds, please click here.
FAOFX has an annual expense ratio of 0.01%, which is below the category average of 1.07%. The fund has YTD and one-year returns of 27.1% and 14.9%, respectively. FAOFX had an alpha of 12.34 in the last three years.
Virtus KAR Small-Cap Growth Fund Class A (PSGAX – Free Report) seeks risk-adjusted long-term returns by investing in securities of domestic small-cap growth companies which offer durable competitive advantages lower financial risk as well as strong growth trajectories.
This Zacks sector – Small Cap Growth product has a history of positive total returns for more than 10 years. To see how this fund performed compared in its category, and other 1 and 2 Ranked Mutual Funds, please click here.
PSGAX has an annual expense ratio of 0.94%, which is below the category average of 1.23%. The fund has YTD and one-year returns of 33.3% and 14.1%, respectively. PSGAX had an alpha of 15.76 in the last three years.
Lord Abbett Developing Growth Fund Class F (LADFX – Free Report) seeks appreciation of capital in the long run. The fund invests in a diversified portfolio of developing growth companies. Moreover, LADFX invests in those companies which its portfolio management team believes has above-average, long-term growth potential.
This Sector – Small Cap Growth product has a history of positive total returns for over 10 years. To see how this fund performed compared in its category, and other 1 and 2 Ranked Mutual Funds, please click here.
LADFX has an annual expense ratio of 0.78%, which is below the category average of 1.23%. The fund has YTD and one-year returns of 35.2% and 21.7%, respectively. LADFX had an alpha of 6.18 in the last three years.
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