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The 10-Year Streak: Alpha Theory 2021 Year In Review

Alpha Theory is celebrating 10 years. Of Alpha Theory All Manager dataset. Read the findings to see why Alpha Theory clients outperformed other hedge funds seven out of the last ten years by an average of two percent per year, and more.

As data enthusiasts, we love to dig into numbers and uncover patterns. From examining ten years of Alpha Theory All Manager data, we agree with Obi-Wan Kenobi, "In my experience, there is no such thing as luck."  

The best investors know the key to outperforming year-over-year is discipline, process, and consistency. Sure, an investor can get lucky over the short-term. But the question that should be asked is whether that investor can continue to outperform over the long-term.  

One thing that is for certain is that Alpha Theory clients continue to outperform! Over the past ten years, Alpha Theory clients have outperformed other hedge funds seven times by an average of two percent per year. Over the same period, Alpha Theory’s optimal position sizing outperformed clients’ actual return EVERY year by an average of five percent. That’s ten years in a row!

HFRI v Actual v Optimal

What does this mean? Our clients are self-selecting, better-than-average managers that could be even better if they more closely followed the optimal models they built in Alpha Theory. In fact, over the past decade, the compound return is twice that of their actual performance, at 269% vs. 133%, and almost three times that of the average hedge fund, 269%i vs. 89%. (Sidenote: five percent additional return for ten years doubles the returns. Isn’t compounding amazing?)

What does this look like from an annual return perspective? The graph below shows Equity Hedge Index gross returns (no fees and full leverage), Alpha Theory client returns, and the returns if Alpha Theory clients’ portfolios were managed systematically according to optimal position sizing. 2021 was the fourth year of the past ten where clients underperformed the primary Equity Hedge Index on a gross return basis, which does not account for their substantially lower leverage. The return difference between the Equity Hedge Index and Alpha Theory optimal was roughly in line for the year, again, with lower leverage.

Industry vs Actual vs Optimal Performance (Total Gross Returns)

Once we normalize for leverage, the differences become more obvious. On average, Alpha Theory clients operate with ~125% of leverage vs. the industry average of ~175%, per a 10-year study from Morgan Stanleyii. The chart below is based on Return on Invested Capital (ROIC), with 100% gross exposure per manager, and is an apples-to-apples comparison. On a ROIC basis, Alpha Theory clients outperformed the industry seven of the past ten years. Alpha Theory’s optimal position sizing outperformed both Alpha Theory clients and the industry all ten years.

Industry vs Actual vs Optimal Performance (No Leverage - Gross ROIC)


On average, returns from optimal position sizing have topped returns from actual position sizing every year. But it doesn’t win for every client and every position. If we randomly select a client in a given year, optimal sizing is better 69% of the time. If we randomly select a position in a given year, optimal sizing wins 58% of the time. What we see in the results is the benefit of consistently applying process. The more time spent applying process, the more likely the process is to winii.


Alpha Theory clients use our platform to reduce the impact of emotion and eliminate the guesswork as they make position sizing decisions. Alpha Theory gives a true ranking of ideas in the portfolio so managers can size them accordingly. It does this with a rules engine that: 

   1. Centralizes price targets and archives them in a database 

   2. Provides notifications of price target updates and anomalies 

   3. Calculates Probability-Weighted Returns (PWR) for assets and

       the portfolio as a whole 

   4. Enhances returns 

   5. Mitigates portfolio risk 

   6. Saves time 

   7. Adds precision and rigor to sizing process 

   8. Incorporates real-time market data (price, liquidity, etc.)

       into sizing decisions

Our clients are a self-selecting cohort who believe in process and discipline; process orientation goes together with the Alpha Theory platform, which serves as a disciplining mechanism to align the best risk/reward ideas with rankings in the portfolio.  

There is no question that a sound investment process requires discipline. Below are some of the best lessons for turning process into performance. 


Alpha Theory research shows that ROIC for assets with price targets is 5.1% higher than for those without price targets. Some investors chafe at price targets because they smack of “false precision.” These investors miss the point because the key to price targets is not their absolute validity but their explicit nature, which allows for objective conversation of the assumptions that went into them. In other words, the requirements of calculating a price target and the questions that price targets foster are central to any good process. 

Price Targets vs No Price Targets by Annualized ROIC


Once you establish price targets, keeping them fresh adds 4.9% of ROIC. See below for a chart comparing Fresh vs. Stale Price Targets (stale is defined as older than 90 days).

Fresh vs Stale Price Targets by Annualized ROIC 2012-2021

In a world of shrinking alpha opportunities, the best way to consistently outperform is by applying a systematic approach to research and sizing. The founding principle of Alpha Theory is that managers can benefit from a systematic sizing process based on their research. The more frequently that research is updated, the higher the probability of making good investment decisions. This has held true historically and was especially important in 2021. Below, we show the annualized ROIC on fresh and stale positions for 2021. Positions with fresh research outperformed positions with stale research with a similar margin, more than two times.

Fresh vs Stale Price Targets by Annualized ROIC 2021 Only


Once you create a research process based on fresh price targets, the next step is to create a systematic process to highlight when positions are out of line with the research. That’s what Alpha Theory does in the form of optimal position sizing. As you can see below, there is a marked improvement in almost every metric with systematic position sizing. Again, this is based on ten years of data across 100+ managers. We can confidently say that the managers using Alpha Theory are great price target forecasters. Still, they could do even better if they more closely followed the system they built in Alpha Theory. 

ROIC:Batting:Slugging Actual vs Optimal

In the future, finding alpha will not become easier. It is imperative that the funds of the 21st century develop plans to evolve to new realities. Data and process are critical to that evolution. Why? Process and systems can be observed and measured, creating a positive feedback loop where managers adopt more of the systems associated with high returns and fewer of the systems that aren’t. Let Alpha Theory help you and your team grow to meet the challenges of tomorrow.


i The optimal trading strategy will only make a trade when the change in OPS is greater than 50 bps from the previous day, and assumes trading costs of the lesser of 10 bps or three cents per trade.

ii Morgan Stanley Hedge Fund Report, Dec 2019.

iii Tennis match simulator from Michael Mauboussin showing the benefit of compounding small edges.

Portfolio Strategy