18.1 Investment Clients, Service Providers, Objectives of ...

18.1 Investment Clients, Service Providers, Objectives of ...

Portfolio Performance Evaluation 1 8 Bodie, Kane and Marcus Essentials of

Investments 9th Global Edition 18.1 INVESTMENT CLIENTS, SERVICE PROVIDERS, OBJECTIVES OF PERFORMANCE EVALUATION Passive Management

Cash

Virtually risk-free money market securities Active Management Diversified portfolio with no security mispricing identification

Forecasting broad markets and/or identifying mispriced securities to achieve higher returns Market Timing Relative performance drives fund movement between risky portfolio and cash

18.1 INVESTMENT CLIENTS, SERVICE PROVIDERS, OBJECTIVES OF PERFORMANCE EVALUATION Comparison Universe Set

of portfolio managers with similar investment styles used to assess relative performance 18.1 INVESTMENT CLIENTS, SERVICE PROVIDERS, OBJECTIVES OF PERFORMANCE EVALUATION 18.1 INVESTMENT CLIENTS, SERVICE

PROVIDERS, OBJECTIVES OF PERFORMANCE EVALUATION TABLE 18.1 PERFORMANCE OF TWO MANAGED PORTFOLIOS 18.1 INVESTMENT CLIENTS, SERVICE PROVIDERS, OBJECTIVES OF PERFORMANCE EVALUATION

18.1 INVESTMENT CLIENTS, SERVICE PROVIDERS, OBJECTIVES OF PERFORMANCE EVALUATION 18.1 INVESTMENT CLIENTS, SERVICE PROVIDERS, OBJECTIVES OF PERFORMANCE

EVALUATION Information Ratio Ratio of alpha to standard deviation of diversifiable risk

18.1 INVESTMENT CLIENTS, SERVICE PROVIDERS, OBJECTIVES OF PERFORMANCE EVALUATION 18.1 INVESTMENT CLIENTS, SERVICE PROVIDERS, OBJECTIVES OF PERFORMANCE EVALUATION

18.2 STYLE ANALYSIS Complex method of performance evaluation introduced by William Sharpe Recent studies of mutual fund performance show > 90% of return variation can be explained by funds allocations to T-bills, stocks, and bonds

TABLE 18.3 SHARPES STYLE PORTFOLIOS FOR MAGELLAN FUND *Regressions are constrained to have nonnegative coefficients and to have coefficients that sum to 100%. FIGURE 18.3 FIDELITY MAGELLAN FUND CUMULATIVE RETURN DIFFERENCE VERSUS

STYLE BENCHMARK FIGURE 18.4 FIDELITY MAGELLAN FUND CUMULATIVE RETURN DIFFERENCE VERSUS S&P 500 FIGURE 18.5 AVERAGE TRACKING ERROR, 636 MUTUAL FUNDS, 85-89

18.3 MORNINGSTARS RISK-ADJUSTED RATING Company peer groups established based on Morningstar style definitions Risk-adjusted performance ranked; then stars assigned according to table Percentile

Stars 0-10 1 10-32.5

2 32.5-67.5 3 67.5-90 4

90-100 5 FIGURE 18.6 RANKINGS BASED ON MORNINGSTARS CATEGORY RARS AND EXCESS RETURN SHARPE RATIOS

18.4 RISK ADJUSTMENTS WITH CHANGING PORTFOLIO COMPOSITION Problems with Performance Measures Assume fund maintains constant level of risk

Particularly problematic for funds engaging in active asset allocation In large universe of funds, some will have abnormal performance each period by chance

Survivorship bias Upward bias in average fund performance due to failure to account for failed funds over sample period

FIGURE 18.7 PORTFOLIO RETURNS 18.5 PERFORMANCE ATTRIBUTION PROCEDURES Decomposing overall performance into components Determined

by specific portfolio choices Broad asset allocation among types of securities Industry weighting in equity portfolio Security choice Timing

TABLE 18.4 PERFORMANCE OF MANAGED PORTFOLIO Bogey Benchmark portfolio comprised of three indexes with given weights

Bogey return represents return on unmanaged portfolio Weights represent standard portfolio for typical

risk tolerance of given type of client or typical fund in category TABLE 18.5 PERFORMANCE ATTRIBUTION TABLE 18.6 SECTOR ALLOCATION WITHIN EQUITY MARKET

TABLE 18.7 PORTFOLIO ATTRIBUTION: SUMMARY 18.6 MARKET TIMING Adjust asset allocation for movements in market Shift

between stocks and money market instruments or bonds Behaves like an option if one has perfect ability to forecast Little evidence of market-timing ability MARKET TIMING

With Imperfect Ability to Forecast Takes long time horizon to judge ability Judge proportions of correct calls Bull market and bear market calls

FIGURE 18.8 ROR OF PERFECT MARKET TIMER TABLE 18.8 PERFORMANCE OF CASH, STOCKS, AND PERFECT TIMING STRATEGIES FIGURE 18.9A CHARACTERISTIC LINES

FIGURE 18.9B CHARACTERISTIC LINES

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