ch_19_sol - CHAPTER 19 PERFORMANCE EVALUATION and ACTIVE...

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CHAPTER 19: PERFORMANCE EVALUATION and ACTIVE PORTFOLIO MANAGEMENT 1. b. 2. c. 3. b. 4. a. E(r) σ β Stock A 11 10 .8 Stock B 14 31 1.5 Market index 12 20 1.0 Risk-free asset 6 0 0.0 The alphas for the two stocks are: α A = 11 – [6 + 0.8(12 – 6)] = .2% α B = 14 – [6 + 1.5(12 – 6)] = –1.0% Ideally, you would want to take a long position in A and a short position in B. b. If you will hold only one of the two stocks, then the Sharpe measure is the appropriate criterion: S A = = .5 S B = = .26 A is preferred using the Sharpe criterion. 5. We need to distinguish between timing and selection abilities. The intercept of the scatter diagram is a measure of stock selection ability. If the manager tends to have a positive excess return even when the market’s performance is merely “neutral” (i.e., has zero excess return) then we conclude that the manger has on average made good stock picks -- stock selection must be the source of the positive excess returns. Timing ability is indicated by the curvature of the plotted line. Lines that become steeper as you move to the right of the graph show good timing ability. The steeper slope shows that the manager maintained higher portfolio sensitivity to market swings (i.e., a higher beta) in periods when the market performed well. This ability to choose more market-sensitive securities in anticipation of market upturns is the essence of good timing. In contrast, a declining slope as you move to the right 19 -1
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means that the portfolio was more sensitive to the market when the market did poorly and less sensitive when the market did well -- this indicates poor timing. We can therefore classify performance ability for the four mangers follows: Selection Ability Timing Ability a.Bad Good b. Good Good c.Good Bad d. Bad Bad 6. a. Bogey: .60 × 2.5% + .30 × 1.2% + .10 × 0.5% = 1.91% Actual: .70
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