performance of investments Flashcards
(24 cards)
money weighted rate of return
- return over time adjusting for cash flows
- it’s weighted rate of return
time weighted return
- TWR can compare the performance of one fund manager to another
- it can break down return for a particular period
- the time weighted returns for the overall period is established by compounding the returns for each sub period
-TWR is the increase in value of money invested on the first day that stays invested for the entire time
- fir each sub period we need to calculate the holding return. we can then link all these discrete returns together to calculate the TWR for the overall period
please see cards for calculation
money weighted and time weighted
- money weighted good at one
- time weighted should be used when comparing portfolios
risk adjusted returns
risk adjusted returns answer
- performance analaysis consists of looking at actual total returns and volatility over cumulative and discreet periods comparing a fund with benchmark.
if a manager has taken a higher level of risk it is reasonable to expect compensation.
two ways to measure risk is
- volatility of returns measured through standard deviation
- beta systematic risk
three ways to measure risk adjusted
- the information ratio
- alpha
- sharpe
sharpe ratio
It measures the excess return for every unit of risk taken to achieve the return and is frequently used for comparing investment. it allows us to see which offers the most returns for a given amount of risk.
standard deviation of the return on the investment
- the difference bethe return achieved by investment and risk free rate of return is the excess return received for taking some risk.
-risk measured by SD of returns
what does a high sharpe ratio mean
- negative means that the risk free asset would have performed better than the asset being analysed .
- greater a portfolios ratio the better it’s risk adjusted performance has been
what is alpha
- the difference between the return that you would expect from a security given its beta and the return that is has actually produced.
- it’s the part that can’t be explained by movements. It’s also the performance
- it’s the last that allows us to quantify the value added by active management since it is independent if the underlying market or benchmark performance and is a measure of the stock picking skills
what’s a positive alpha
- positive means the security has performed better than predicted given its beta
alpha and CAPM
- it is the return that is not explained by the CAPM
alpha and beta
- they are independent
- they are also independent in CAPM
CAPM formulae and alpha
alpha = actual portfolio return -(risk free rate return + beta x (market return risk free rate return))
negative alpha explanations
- underormarnce in market adjusted for beta
- can also be because of fees present in figures but not in figures comparative to benchmark
information ratio
- it is used to assess the risk adjusted performance of active portfolio managers . It is used to test the skill of fund managers and shows the consistency with which a manager beats a benchmark index
- it measures the relative return achieved by an investment manager divided by the amount of risk the manager has taken relative to the benchmark
- the relative return is the return on actively managed fund - return on the benchmark
- relative return can be negative
- the risk taken relative to the benchmark is the tracking error which is the standard deviation of the returns
information ratio formulae
tracking error (risk taken relative to benchmark)
( no need to times etc
what does a high information retail indicate
- higher information ratio higher the value added based on the amount of risk taken in relation to benchmark
- positive one shows that the manager has added value through active management
what does negative information ratio mean
- that the investor would have achieved a better return by matching the index using trackers
performance attribution - managers achieve results via
- market timing
- stock selection this is shares that have individually outperformed
- asset allocation - division of investment into different type of assets such as markets and securities. most managers are top down where performance first comes through asset allocation
- risk - managers may decide to take more or less risk than benchmark depending on their views about the market
assessing managers steps
1) appropriate benchmark. Many UK will benchmark the FRSE. Pension manager with more retirees will go for UK fixed interest
2) benchmark asset allocation - find out asset allocation for benchmark over period is 45% UK equity. Will need to compare on yours.
3) benchmark returns- what each asset class in the benchmark portfolio would have achieved has it is performed in line with the appropriate index for the sector (times the percentages to get a percentage and x 100). this will then allow the manager to see what they could have achieved had they tracked the appropriate index for
each asset
Step 4 - compare the performance with the asset allocations performance. It shows how the asset allocation contributed (weightings) rather than stock. contribution for return if each asset class is calculated by index performance x asset allocation.
5 - calculate the effect of stock selection. The result is index performance - actual x benchmark asset allocation. These will add up to a slight over or under.
what does sharpe ratio measure
- It measures the return above the risk free rate for every unit of risk taken (as measured by Sd). It states if the return in the portfolio is due to skilful decisions of the manager or is the result of taking excessive risk
what does information ratio measure
The relative teturn achieved by an investment manager divided by the risk taken relative to a benchmark ( the tracking error )
what does a negative information ratio mean
- that they could have achieved better returns by following the benchmark
