chapter 24 l.
Download
Skip this Video
Loading SlideShow in 5 Seconds..
Chapter 24 PowerPoint Presentation
Download Presentation
Chapter 24

Loading in 2 Seconds...

play fullscreen
1 / 26

Chapter 24 - PowerPoint PPT Presentation


  • 403 Views
  • Uploaded on

Chapter 24. Portfolio Performance Evaluation. Introduction. Complicated subject Theoretically correct measures are difficult to construct Different statistics or measures are appropriate for different types of investment decisions or portfolios

loader
I am the owner, or an agent authorized to act on behalf of the owner, of the copyrighted work described.
capcha
Download Presentation

PowerPoint Slideshow about 'Chapter 24' - vladimir


An Image/Link below is provided (as is) to download presentation

Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author.While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server.


- - - - - - - - - - - - - - - - - - - - - - - - - - E N D - - - - - - - - - - - - - - - - - - - - - - - - - -
Presentation Transcript
chapter 24

Chapter 24

Portfolio PerformanceEvaluation

24-1

introduction
Introduction
  • Complicated subject
  • Theoretically correct measures are difficult to construct
  • Different statistics or measures are appropriate for different types of investment decisions or portfolios
  • Many industry and academic measures are different
  • The nature of active management leads to measurement problems

24-2

dollar and time weighted returns
Dollar- and Time-Weighted Returns

Dollar-weighted returns

  • Internal rate of return considering the cash flow from or to investment
  • Returns are weighted by the amount invested in each stock

Time-weighted returns

  • Not weighted by investment amount
  • Equal weighting

24-3

text example of multiperiod returns
Text Example of Multiperiod Returns

PeriodAction

0 Purchase 1 share at $50

1 Purchase 1 share at $53

Stock pays a dividend of $2 per share

2 Stock pays a dividend of $2 per share

Stock is sold at $108 per share

24-4

dollar weighted return
Dollar-Weighted Return

Period Cash Flow

0 -50 share purchase

1 +2 dividend -53 share purchase

2 +4 dividend + 108 shares sold

Internal Rate of Return:

24-5

time weighted return
Time-Weighted Return

Simple Average Return:

(10% + 5.66%) / 2 = 7.83%

24-6

averaging returns
Averaging Returns

Arithmetic Mean:

Text Example Average:

(.10 + .0566) / 2 = 7.81%

Geometric Mean:

Text Example Average:

[ (1.1) (1.0566) ]1/2 - 1

= 7.83%

24-7

comparison of geometric and arithmetic means
Comparison of Geometric and Arithmetic Means
  • Past Performance - generally the geometric mean is preferable to arithmetic
  • Predicting Future Returns- generally the arithmetic average is preferable to geometric
    • Geometric has downward bias

24-8

abnormal performance
Abnormal Performance

What is abnormal?

Abnormal performance is measured:

  • Benchmark portfolio
  • Market adjusted
  • Market model / index model adjusted
  • Reward to risk measures such as the Sharpe Measure:

E (rp-rf) / p

24-9

factors that lead to abnormal performance
Factors That Lead to Abnormal Performance
  • Market timing
  • Superior selection
    • Sectors or industries
    • Individual companies

24-10

risk adjusted performance sharpe

rp = Average return on the portfolio

  • rf = Average risk free rate

= Standard deviation of portfolio

return

p

Risk Adjusted Performance: Sharpe

1) Sharpe Index

rp - rf

p

24-11

m 2 measure
M2 Measure
  • Developed by Modigliani and Modigliani
  • Equates the volatility of the managed portfolio with the market by creating a hypothetical portfolio made up of T-bills and the managed portfolio
  • If the risk is lower than the market, leverage is used and the hypothetical portfolio is compared to the market

24-12

m 2 measure example
M2 Measure: Example

Managed Portfolio: return = 35% standard deviation = 42%

Market Portfolio: return = 28% standard deviation = 30% T-bill return = 6%

Hypothetical Portfolio:

30/42 = .714 in P (1-.714) or .286 in T-bills

(.714) (.35) + (.286) (.06) = 26.7%

Since this return is less than the market, the managed portfolio underperformed

24-13

risk adjusted performance treynor

rp = Average return on the portfolio

  • rf = Average risk free rate
  • ßp = Weighted average for portfolio
Risk Adjusted Performance: Treynor

rp - rf

ßp

2) Treynor Measure

24-14

risk adjusted performance jensen
Risk Adjusted Performance: Jensen

3) Jensen’s Measure

= rp - [ rf + ßp ( rm - rf) ]

p

= Alpha for the portfolio

p

rp= Average return on the portfolio

ßp = Weighted average Beta

rf = Average risk free rate

rm = Avg. return on market index port.

24-15

appraisal ratio
Appraisal Ratio

Appraisal Ratio = ap / s(ep)

Appraisal Ratio divides the alpha of the portfolio by the nonsystematic risk

Nonsystematic risk could, in theory, be eliminated by diversification

24-16

which measure is appropriate
Which Measure is Appropriate?

It depends on investment assumptions

1) If the portfolio represents the entire investment for an individual, Sharpe Index compared to the Sharpe Index for the market.

2) If many alternatives are possible, use the Jensen or the Treynor measure

The Treynor measure is more complete because it adjusts for risk

24-17

limitations
Limitations
  • Assumptions underlying measures limit their usefulness
  • When the portfolio is being actively managed, basic stability requirements are not met
  • Practitioners often use benchmark portfolio comparisons to measure performance

24-18

market timing
Market Timing

Adjusting portfolio for up and down movements in the market

  • Low Market Return - low ßeta
  • High Market Return - high ßeta

24-19

example of market timing

rp - rf

*

*

*

*

*

*

*

*

*

*

*

*

*

*

*

*

*

*

*

*

rm - rf

*

*

*

Steadily Increasing the Beta

Example of Market Timing

24-20

performance attribution
Performance Attribution
  • Decomposing overall performance into components
  • Components are related to specific elements of performance
  • Example components
    • Broad Allocation
    • Industry
    • Security Choice
    • Up and Down Markets

24-21

process of attributing performance to components
Process of Attributing Performance to Components

Set up a ‘Benchmark’ or ‘Bogey’ portfolio

  • Use indexes for each component
  • Use target weight structure

24-22

process of attributing performance to components23
Process of Attributing Performance to Components
  • Calculate the return on the ‘Bogey’ and on the managed portfolio
  • Explain the difference in return based on component weights or selection
  • Summarize the performance differences into appropriate categories

24-23

formula for attribution
Formula for Attribution

Where B is the bogey portfolio and p is the managed portfolio

24-24

contributions for performance
Contributions for Performance

Contribution for asset allocation (wpi - wBi) rBi

+ Contribution for security selection wpi (rpi - rBi)

= Total Contribution from asset class wpirpi -wBirBi

24-25

complications to measuring performance
Complications to Measuring Performance
  • Two major problems
    • Need many observations even when portfolio mean and variance are constant
    • Active management leads to shifts in parameters making measurement more difficult
  • To measure well
    • You need a lot of short intervals
    • For each period you need to specify the makeup of the portfolio

24-26