Treynor Ratio Formula + Calculator

When used in evaluation of CSR and sustainable investments, the Treynor Ratio can provide insightful findings. This might manifest itself in a higher Treynor Ratio compared to companies that have little to no focus on sustainability or CSR issues. Another significant limitation of the Treynor Ratio is its reliance on beta, which assumes that the portfolio’s risk-return trade-off ndax review is linear and consistent. This assumption might not hold true in all situations, especially in volatile markets. Beta itself can be unstable over time, and it may not provide an accurate measure of risk for portfolios with complex or non-traditional assets. Both ratios are interpreted in a similar manner; a higher value indicates superior risk-adjusted performance.

Moreover, the ratio represents the excess returns above the risk-free rate, meaning a higher ratio is preferred because it suggests greater returns on the portfolio, with the opposite being true for a lower ratio. The Treynor ratio captures the difference between a portfolio’s alpari review total return and the risk-free rate, which is subsequently adjusted for the amount of risk undertaken on a per-unit basis. Speaking in general, the higher the Treynor ratio the better, as it means you are earning more return for each unit of systematic risk you take.

  1. The Treynor Ratio can be compared and contrasted with metrics such as the Sharpe Ratio, Jensen’s Alpha, and Sortino Ratio to provide a more holistic understanding of an investment’s performance.
  2. Excess return in this sense refers to the return earned above the return that could have been earned in a risk-free investment.
  3. The correlation between portfolio risk, as measured by the Treynor Ratio, and CSR issues has been a point of attention, particularly due to the rise in sustainable and responsible investing.
  4. The Treynor ratio measures investment performance accounting for systematic risk (market risk).
  5. It helps investors and analysts establish a pertinent correlation between the yield of the fund and the inherent market risk.
  6. It measures the efficiency with which the portfolio manager utilizes the fund’s assets to generate returns in relation to the level of systematic risk.

Remember, while the Treynor ratio can provide significant insights, it shouldn’t be the only metric used in judging a mutual fund’s performance. Investors should also consider other factors such as the fund’s objectives, the manager’s experience, and the consistency of returns in their evaluation. Simply put, a positive Treynor ratio means that the potential reward outweighs the risk taken, while a negative ratio implies excessive risk for the return being offered.

What are the applications of the Treynor Ratio?

Despite this common goal, the fundamental difference lies in the types of risk they consider. The Treynor ratio focuses on systematic risk as represented by beta, whereas the Sharpe ratio uses standard deviation to account for both systematic and unsystematic risk. It would mean that the portfolio is providing less return for each unit of systematic risk taken.

Understanding the Treynor Ratio

Next, let’s look at some examples to understand how to calculate the Treynor ratio. Upgrading to a paid membership gives you access to our extensive collection of plug-and-play Templates designed to power your performance—as well as CFI’s full course catalog and accredited Certification Programs. Take self-paced courses to master the fundamentals of finance and connect with like-minded individuals. Someone on our team will connect you with a financial professional in our network holding the correct designation and expertise.

Treynor Ratio FAQs

You decide to use the Treynor Ratio to help you select the best portfolio investment. Finance Strategists is a leading financial education organization that connects people with financial professionals, priding itself on providing accurate and reliable financial information to millions of readers each year. At Finance Strategists, we partner with financial experts to ensure the accuracy of our financial content. The articles and research support materials available on this site are educational and are not intended to be investment or tax advice.

Over 1.8 million professionals use CFI to learn accounting, financial analysis, modeling and more. Start with a free account to explore 20+ always-free courses and hundreds of finance templates and cheat sheets. xm group review Enhancements to the Treynor Ratio include the Modified Treynor Ratio, the Treynor-Black Model, and the incorporation of alternative risk measures like Value-at-Risk (VaR) and Conditional Value-at-Risk (CVaR).

Both are named for their creators, Nobel Prize winner William Sharpe and American economist Jack Treynor, respectively. While they may help investors understand investments and risk, they offer different approaches to evaluating investment performance. The Sharpe ratio helps investors understand an investment’s return compared to its risk while the Treynor ratio explores the excess return generated for each unit of risk in a portfolio. Also known as the reward-to-volatility ratio, the Treynor ratio is a performance metric for determining how much excess return was generated for each unit of risk taken on by a portfolio.

Applications of the Treynor Ratio

Designed by economist Jack Treynor, who also created the capital asset pricing model (CAPM), the ratio is used by investors to make informed decisions regarding asset allocation and portfolio diversification. With this Treynor ratio calculator, you can easily analyze your portfolio’s performance against systematic risk. The Treynor ratio is commonly used to analyze a portfolio’s investment performance. Most importantly, it tells us how much return you are getting per unit of systematic risk you are taking.

Most investments, though, don’t necessarily perform the same way in the future that they did in the past. From the perspective of an investor, the insights derived from comparing the risk-adjusted fund returns contributes toward the selection of which funds to allocate their capital to. For instance, it would not be appropriate to use the Dow 30 Index to measure the beta of a mutual fund whose portfolio consists of small-cap companies. Conversely, a low Treynor ratio could indicate mismanagement or a higher-than-normal risk strategy that fails to generate satisfactory returns. It’s essential to note here, that while higher Treynor Ratio values typically indicate better performance on a risk-adjusted basis, it doesn’t always signify a company’s sound commitment to CSR and sustainability.

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