How can one compute the alpha decay of a systematic trading strategy?
Answer
The short answer (which represents one way of surely many ways to do it) is to watch the t-stat of a performance metric such as information coefficient vanish over time. IC is the correlation of predicted expected returns from your alpha strategy to the underlying benchmark.
Look at the expected returns your alpha strategy predicted over the past N time intervals and see how those predicted returns were correlated with the benchmark. This is the IC.
The crux of course is that you need to test if the IC is statistically different from zero or is just random noise. You would do this by computing the t-stat over time and watch it decay as the strategy you managed to build over hundreds of hours of research is unceremoniously drained of edge.
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