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Sem 5 Prep
← Money & BankingFund performance, insurance and pensions

Formulas for this chapter

Sharpe ratio

Sharpe ratio = (Rp - Rf) / sigma_p

Evaluating an entire portfolio, because it measures total risk and therefore penalises a portfolio for being undiversified.

Rp
Portfolio return over the period
Rf
Risk-free rate
sigma_p
Standard deviation of the portfolio's return, that is total risk

Treynor ratio

Treynor ratio = (Rp - Rf) / beta_p

Evaluating a security or portfolio for possible inclusion into an existing portfolio, where specific risk will be diversified away and only systematic risk matters.

beta_p
Portfolio beta, measuring systematic risk only

Jensen's alpha

alpha_p = Rp - [ Rf + beta_p (E(RM) - Rf) ] = actual return - CAPM risk-adjusted predicted return

To say by how much a portfolio beat the market after adjusting for the risk it took. Build the CAPM prediction first; subtracting the market return instead is the standard error.

E(RM)
Expected or realised market return
E(RM) - Rf
Market risk premium

NPS withdrawal at 60

Maximum tax-free lump sum = 60% of corpus Minimum annuity purchase = 40% of corpus Equity cap in auto choice = 75%

Any NPS numerical. The 60% is a maximum and the 40% a minimum, so a subscriber may annuitise more but never less.

corpus
Accumulated value of the Tier I account at retirement
Step 2 of 28
The real wordsPractical

The Sharpe ratio

Sharpe ratioA reward-to-risk ratio that focuses on total risk. Computed as a portfolio's risk premium divided by the standard deviation of the portfolio's return.
Sharpe ratio = (Rp - Rf) / sigma_p

The numerator, Rp minus Rf, is the risk premium: the return earned above what a risk-free asset would have paid. It is common to all three measures.

What changes between the three is only the denominator, that is what counts as risk.

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