Investments, tenth edition

  Jane’s Choice Portfolio Is One of Many Portfolios Combined into a 

Large Investment Fund   

This case might describe a situation where Jane, as a cor-

porate financial officer, manages the corporate pension fund. She parcels out the entire 

fund to a number of portfolio managers. Then she evaluates the performance of individual 

managers to reallocate the fund to improve future performance. What is the correct perfor-

mance measure? 

 The Sharpe ratio is based on average excess return (the reward) against total SD 

(total portfolio risk). It measures the slope of the CAL. However, when Jane employs 

a number of managers, nonsystematic risk will be largely diversified away, so system-

atic risk becomes the relevant measure of risk. The appropriate performance metric is 

now Treynor’s, which takes the ratio of average excess return to beta (because systematic 

SD  5   b   3  market  SD). 

 Consider portfolios  P  and  Q  in  Table 24.1  and the graph in  Figure 24.3 . We plot  P   and 

 Q  in the expected return–beta (rather than the expected return–standard deviation) plane, 

because we assume that  P  and  Q  are two of many subportfolios in the fund, and thus that