Alpha, along with beta, is one of two key coefficients in the capital asset pricing model used in modern portfolio theory and is closely related to other important quantities such as standard deviation, R-squared and the Sharpe ratio.
It is also possible to analyze a portfolio of investments and calculate a theoretical performance, most commonly using the capital asset pricing model (CAPM).
This is useful for non-traditional or highly focused funds, where a single stock index might not be representative of the investment's holdings.
It is the intercept of the security characteristic line (SCL), that is, the coefficient of the constant in a market model regression.
Efficient market hypothesis (EMH) states that share prices reflect all information, therefore stocks always trade at their fair value on exchanges.
This would mean consistent alpha generation (i.e. better performance than the market) is impossible, and proponents of EMH posit that investors would benefit from investing in a low-cost, passive portfolio.