Evaluating the potential profitability of alpha trading

Sammanfattning: The purpose of this thesis is to test whether an active trading strategy using historical alpha values (a measure of risk-adjusted excess returns) for stocks can be used to achieve positive risk-adjusted profits. To do so, data on stocks in the Dow Jones Industrial Average and the Standard & Poor’s 500 Index from 1997 to 2018 are used to estimate the market model, using GARCH and TGARCH. Three kinds of portfolios are evaluated: portfolios to be held long, consisting of stocks with historical alpha values estimated to be larger than zero; portfolios to be held short, consisting of stocks with historical alpha values estimated to be less than zero; and self-financing portfolios, where stocks that have positive historical risk-adjusted returns are held long but stocks that have historical negative risk-adjusted returns are held short. The results of this study indicate that this trading strategy does not systematically “beat the market”.