PORTABLE ALPHA PRIMER

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PORTABLE ALPHA PRIMER 2006 ASAP Fall Investment
Conference October 27, 2006
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What is Portable Alpha?
Portable alpha is based on the idea of separating
your beta exposure (your underlying benchmark)
from your alpha opportunity set (the excess
return above a benchmark). Beta Obtain it as
cheaply as possible Alpha Find a positive and
consistent source
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Mechanics of Portable Alpha
Finding Alpha in Long-Only Managers
Situation UWF has a solid outperforming manager
in our large-cap equity portfolio, but need a
bond manager with positive alpha.
Long Bond Futures
Futures Market
UWF
Equity Manager
Total Return Implies SP 500 Alpha
Short SP 500 Futures
Total Manager Return SP 500 Futures Bond
Beta Bond Beta Alpha
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Mechanics of Portable Alpha
Finding Alpha in Other Strategies
Situation UWF would like to enhance their alpha
in the fixed income portfolio.
Long Bond Futures
Futures Market
UWF
Hedge Fund
Net Return Or Alpha
LIBOR
Bond Futures Return (Alpha - LIBOR cost)
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Mechanics of Portable Alpha
Finding Alpha in Other Strategies
Situation UWF would like to obtain alpha in an
asset class where a futures contract does not
exist.
Russell 2000 Growth
Third Party Swap Provider
UWF
Hedge Fund
Net Return Or Alpha
LIBOR 0.25
Russell 2000 Growth Alpha (LIBOR 0.25)
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Risks of Portable Alpha

• Finding an alpha manager than can provide
  outperformance over the transport cost . . . and
  the higher fees.
• The cost of transport increases in a rising
  short-term interest rate environment.
• Certain asset classes may not have liquid futures
  available and swaps may increase the costs to a
  great degree.
• Leveraged beta or is there beta in your alpha?

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Risks of Portable Alpha

• Liquidity and Rebalancing. The alpha and beta
• will need to be rebalanced as market values
• change. Does the alpha allow for quick
• rebalancing?
• Derivatives. Are derivatives allowed under
  policy and is there expertise on staff to oversee
  the program? Who will oversee the margin calls?
• Career risk.

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Why Bother with Portable Alpha?

• Potential for higher alpha and information
  ratio.
• Larger opportunity set.
• Uncorrelated alphas.
• Maintain discipline with your policy portfolio
• Transport costs are low in current interest rate
• environment.

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