As portfolio managers, how can we evaluate

the performance of our portfolio?

We know that there are 2 major
requirements of a portfolio managers
performance:
1. The ability to derive above-average
returns conditioned on risk taken, either
through superior market timing or superior
security selection.
2. The ability to diversify the portfolio and
eliminate non-systematic risk, relative to a
benchmark portfolio.
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 Arithmetic Mean: Example:
n (.10 + .0566) / 2 = 7.83%
rt
r
t 1 n

Geometric Mean: Example:

1/ n
n
[ (1.1) (1.0566) ]1/2 - 1
r (1 rt ) 1 = 7.808%
t 1

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Dollar-weighted returns
Internal rate of return.
Returns are weighted by the amount
invested in each stock.

Time-weighted returns
Not weighted by investment amount.
Equal weighting
Geometric average

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 It is the average return earned in excess of
the risk free rate per unit of volatility.
Conceived of a composite measure to
evaluate the performance of Mutual Funds
Portfolio performance measure seek to
measure the total risk of the portfolio.
It include Standard deviation of return
rather than considering only the systematic
risk (beta)
Sharpe ratio = (Mean portfolio return Risk-
free rate)/Standard deviation of portfolio
return
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 R p rf
Sp =
p

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 Itis more appropriate for comparing well-
diversified portfolio.
It measures returns earned in excess of that
which could have been earned on a riskless
investment per each unit of market risk.
The Treynor ratio is calculated as:

(Average Return of the Portfolio - Average

Return of the Risk-Free Rate) / Beta of the
Portfolio

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 R p rf
Tp =
p

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 Assets excess return over the return
predicted by the CAPM
Higher the better
It is most appropriate for comparing
portfolios that have the same beta.
Jensen\'s Alpha = Portfolio Return
Benchmark Portfolio Return

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R p,t rf, t p p R M, t r f ,t p ,t

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 Itmeasure to assess if the managers
deviation from the benchmark has reaped
an appropriate return.
How well the manager has acquired and
used information compared to the average
manager.
The information ratio measures the excess
return and risk relative to a specific
benchmark
Risk is measured as the standard deviation
of the excess return (Recall that this is the
Tracking Error)
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 R p Rb
IR p =
ER

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 Similar to sharpe ratio except
Replace risk free rate with a minimum
acceptable return
Replace standard deviation with a type of
semi-standard deviation.
Semi-standard deviation measure the
variability of only those return that fall
below the minimum acceptable return

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