Ashford FIN680 Corporate Finance - Confirm or correct their Sharpe

FIN 680 Ashford University Corporate Finance Discussion

In your response to your classmates,

• Confirm or correct their Sharpe and Treynor ratio calculations.
• Use the R2 to explain which fund is more diversified and how that impacts each ratio.
• Explain why the two ratios are not the same for the two chosen portfolios.

Classmate 1

Sharpe ratio

shows the risk adjusted performance of the fund Using the total risk or standard deviation as the denominator.

= (Rp-Rf)/Standard deviation of portfolio

Treynor ratio

Treynor ratio shows the risk adjusted performance of the fund Using the beta or systematic risk as the denominator

= (Rp-Rf)/Beta of asset

Portfolio E

Sharpe ratio = (15%-6%)/17.4% = 0.51

Treynor ratio = (15%-6%)/0.88 =0.1

Portfolio F

Sharpe ratio = (19%-6%)/18% = 0.72

Treynor ratio = (19%-6%)/0.89 =0.15

Using the sharpe ratio and total risk portfolio F perfomed best

Using the Treynor ratio and total risk portfolio F perfomed best

Overall portfolio F had the best performance

An investor should use the Sharpe ratio when he is more concerned with the total risk of the portfolio.

An investor should use the Treynor ratio when he is more concerned with the systematic risk of the portfolio.

Sharpe ratio measures the performance of an investment compared to a risk-free asset, after adjusting for its risk. This is calculated by dividing the difference between the portfolio return and risk free rate by the standard deviation of portfolio returns.

Treynor ratio measures the returns earned by an investment in excess of that which could have been earned on an investment that has no diversifiable risk, per unit of market risk assumed. This is calculated by dividing the difference between the portfolio return and risk free rate by the portfolio beta.

Portfolio F since it has higher Sharpe and Treynor ratios.

Sharpe ratio is best used when the portfolio is not well diversified while Treynor ratio is best used when the portfolio is well diversified.