Presentation on theme: "BUILDING SHARPE OPTIMIZATION STOCK PORTFOLIOS AND PERFORMANCE ANALYSIS"— Presentation transcript:
1BUILDING SHARPE OPTIMIZATION STOCK PORTFOLIOS AND PERFORMANCE ANALYSIS
2SCOPE OF PRESENTATION INTRODUCTION SHARPE RATIO & OTHER PERFORMANCE MEASURESCOMPARING PERFORMANCE MEASURESMETHODOLOGY ADOPTEDCONCLUSIONRECOMMENDATIONS
3NEED FOR PERFORMANCE ANALYSIS MUTUAL FUNDS THE MOST APPROPRIATE OPPORTUNITY FOR SMALL INVESTORSAS FINANCIAL MARKETS BECOME MORE COMPLEX & SOPHISTICATED , INVESTORS NEED A FINANCIAL INTERMEDIARYMODELS LIKE SHARPE PROVIDE PROFESSIONAL EXPERTISE ON SUCCESFUL INVESTING
4SHARPE RATIOThe Sharpe ratio is a reward-to-risk ratio that focuses on total risk.It is computed as a portfolio’s risk premium divided by the standard deviation for the portfolio’s return.
5SHARPE RATIO FOR A LAYMAN IT QUANTIFIES THE RISK EFFICIENCY OF AN INVESTMENTEQUAL TO EFFECTIVE RETURN(ACTUAL RETURN MINUS RISK FREE RATE) OF AN INVESTMENT DIVIDED BY STANDARD DEVIATIONA HIGH SHARPE RATIO SIGNALS AN INVESTMENT WITH GREATER RISK EFFICIENCY AND IS DESIRABLE
6OTHER PERFORMANCE MEASURES The Treynor RatioThe Treynor ratio is a reward-to-risk ratio that looks at systematic risk only.It is computed as a portfolio’s risk premium divided by the portfolio’s beta coefficient.
7OTHER PERFORMANCE MEASURES Jensen’s AlphaJensen’s alpha is the excess return above or below the security market line. It can be interpreted as a measure of how much the portfolio “beat the market.”It is computed as the raw portfolio return less the expected portfolio return as predicted by the CAPM.“Extra” ReturnActual returnCAPM Risk-Adjusted ‘Predicted’ Return
8Comparing Performance Measures, I. Because the performance rankings can be substantially different, which performance measure should we use?Sharpe ratio:Appropriate for the evaluation of an entire portfolio.Penalizes a portfolio for being undiversified, because in general, total risk systematic risk only for relatively well-diversified portfolios.
9Comparing Performance Measures, II. Treynor ratio and Jensen’s alpha:Appropriate for the evaluation of securities or portfolios for possible inclusion into an existing portfolio.Both are similar, the only difference is that the Treynor ratio standardizes returns, including excess returns, relative to beta.Both require a beta estimate (and betas from different sources can differ a lot).
10Sharpe-Optimal Portfolios, I. Allocating funds to achieve the highest possible Sharpe ratio is said to be Sharpe-optimal.To find the Sharpe-optimal portfolio, first look at the plot of the possible risk-return possibilities, i.e., the investment opportunity set.ExpectedReturnStandard deviation×
11Sharpe-Optimal Portfolios, II. The slope of a straight line drawn from the risk-free rate to where the portfolio plots gives the Sharpe ratio for that portfolio.ExpectedReturnStandard deviation×ARfThe portfolio with the steepest slope is the Sharpe-optimal portfolio.
13METHODOLOGY ADOPTEDCALCULATION OF ALL THE COMPOSITE PERFORMANCE MEASUREMENT RATIOSRANKING THE SELECTED 24 MUTUAL FUNDS AS PER THE RATIOS OBTAINEDAPPLICATION OF SHARPE OPTIMIZATION TECHNIQUE TO KOTAK 30 EQUITY GROWTH MUTUAL FUND
14RANKING OF SAMPLE MUTUAL FUNDS ON BASIS OF TREYNOR RATIO
15RANKING OF SAMPLE MUTUAL FUNDS ON BASIS OF TREYNOR RATIO
16RANKING OF SAMPLE MUTUAL FUNDS ON BASIS OF JENSON RATIO
17RANKING OF SAMPLE MUTUAL FUNDS ON BASIS OF SHARPE RATIO
18ORIGINAL ASSET ALLOCATION FOR KOTAK 30 GROWTH SCHEME
19RESULTS OF SHARPE OPTIMISATION FOR KOTAK 30 GROWTH SCHEME
20CONCLUSIONSHARPE RATIO IS A BLUNT INSTRUMENT TO MEASURE RISK ADJUSTED RETURNIT PRESENTS A MORE COMPLETE PICTURE OF FUND PEFORMANCE THAN RAW RETURNIT HELPS INVESTORS EVALUATE RELATIVE SUCCESS OF COMPETING FUNDS FOLLOWING THE SAME BROAD INVESTMENT STRATEGIES
21RECOMMENDATIONS WELL KNOWN PORTFOLIOS CAN HAVE IMPROPER DESIGNS TOO A GOOD FUND MANAGER SHOULD NOT RELY ON A SINGLE MEASURE FOR DESIGNING A PORTFOLIOFINALLY ,EVALUATION OF A FUND MANAGER SHOULD BE DONE MANY TIMES OVER DIFFERENT MARKET ENVIRONMENT
22“It is not the return on my investment that I am concerned about. It is the return of my investment!”– Will Rogers