Alpha (α) – A measure of performance. The excess return of an investment relative to the return of a benchmark index. 

Generating alpha or seeking higher returns than the market average is the goal of many investors. Investors use various strategies to get excess returns from their investments without taking up additional risk. They track market trends, identify undervalued assets, analyze financial statements, etc. While these are great strategies, investor behavior is one critical determinant of successful investment. The legendary financial services professional Nick Murray says, “The dominant determinant of long-term, real-life return is not investment performance, but investor behaviour.”

By being mindful of their behaviour, emotions, and approach to financial planning and investments, retail investors can generate “behavioural alpha,” i.e., they can personally generate excess returns. Let us see some of the ways an investor can maximize the behavioral alpha

Disciplined investing approach

The best alpha generator is to stay disciplined and invest regularly without trying to time the market. The average investor returns are usually lower than the returns of mutual funds or the index (even if we ignore the costs of investing). 

One of the main reasons is getting emotions in the way of investing, which can lead to irrational decisions. When the investor tries to time the market, buys or sells in panic due to volatility in the market, or becomes greedy, the investor may not get the most optimum returns. 

An investing approach that takes the emotions out of buying and selling by developing and executing a plan can reduce many cognitive errors. 

Focus on the plan

Successful investors have a clear idea of their financial goals, such as retirement or buying a home, etc. They create a plan to achieve these goals based on facts, data, market, personal situation, etc. Subsequently, they execute their devised plan, recognizing that achieving these goals demands discipline and persistence. These investors plan their investments, execute the investment plan, monitor their progress regularly, and adjust the financial plan as needed.

Increase savings rate

Inflation and taxation can eat into your investment returns. Also, the market returns are not on an uptrend always. It is prudent to plan for the possibility of lower future growth. Investors can plan for a low-return environment by increasing their savings rate. It may not give the adrenalin rush of picking a winning stock or making a windfall in trading crypto. However, it is a more reliable way to achieve your financial goals.

Automate investments

It is not easy to not get emotional about money decisions. When markets are on an upward trend or when you get a hot tip on an exciting stock, you are tempted to buy. Or, when markets are crashing, you want to hold more cash. It is also difficult to manage investments when you are busy with family and work responsibilities. By establishing some automation in your investment process, you can avoid these issues and pave the way to generate alpha. You can automate savings in different ways:

• Creating a Fixed Deposit account linked to your Savings Account
• Opening a Recurring Deposit account
• Setting up a SIP in a mutual fund
• Monthly deduction of amount from salary to invest in Public Provident Fund

They are small steps but add up to your corpus in the long run. We cannot predict how the markets will move, and therefore, we have to achieve behavioral alpha to try to outperform the market. Behavioural alpha factors like discipline, planning, and a sound investment strategy can make the difference between financial success and failure.