Portfolio Performance Measurement and Benchmarking

by Christopherson, Jon A.; Carino, David R.; Ferson, Wayne E.

Edition: 1st

ISBN13: 9780071496650

ISBN10: 0071496653

Format: Hardcover

Pub. Date: 2009-06-05

Publisher(s): McGraw Hill

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Summary

In order to make sound investment choices, investors must know the projected return on investment in relation to the risk of not being paid. Benchmarks are excellent evaluators, but the failure to choose the right investing performance benchmark often leads to baddecisions or inaction, which inevitably resultsin lost profits.The first book of its kind, Portfolio Performance Measurement and Benchmarkingis a complete guide to benchmarks and performace evaluation using benchmarks. In one inclusive volume, readers get foundational coverage on benchmark construction, as well as expert insight into specific benchmarks for asset classes and investment styles. Starting with the basics such as return calculations and methods of dealing with cashflows, this thorough book covers a widevariety of performance measurement methodologies and evaluation techniques beforemoving into more technical material that deconstructs both the creation of indexes and the components of a desirable benchmark. Portfolio Performance Measurement and Benchmarking provides detailed coverage of benchmarks for: U.S. equities Global and international equities Fixed income Real estate The team of renowned authors offers illuminating opinions on the philosophy and developmentof equity indexes, while highlighting numerous mechanical problems inherent inbuilding benchmarks and the implications ofeach one. Before you make your next investment, becertain your return will be worth the risk with Portfolio Performance Measurement and Benchmarking.

Author Biography

Jon A. Christopherson, Ph.D., is a.research fellow for Russell Investment Groups. He is a member.of the editorial advisory boards of the Journal of Portfolio.Management and the Journal of Investing Consulting.
.David R. Carin++o, Ph.D., is a research fellow.for Russell Investment Groups. He has published numerous.influential articles on asset allocation and performance measurement.and serves on the advisory board of The Journal of.Performance Measurement.
Wayne E. Ferson, Ph.D., holds the John L. Collins Chair in.Finance at the Carroll School of Management, Boston College.Ivadelle and Theodore Johnson Chair in Banking and Finance,.Marshall School, University of Southern California.

Preface	p. xi
What Is Performance and Benchmarking?	p. 1
The Basic Issue: Has Your Wealth Increased?	p. 1
Was the Change in Wealth Worth the Risk?	p. 2
Comparing Return with Alternative Investment Returns	p. 3
Active Investing versus Passive Investing	p. 4
Performance Attribution	p. 5
Asset Class Return Expectations	p. 7
The Expected Range of Returns from Different Kinds of Investments	p. 7
What Range of Values Is Likely to Be Encountered?	p. 8
Returns Without Cash Flows	p. 13
Portfolio Market Value	p. 13
Holding Period Return	p. 14
Linking Returns	p. 15
Rule of 72	p. 17
Average Returns	p. 19
Average Return Per Period	p. 19
Annualized Return	p. 21
Compounding Frequency	p. 22
Expected Return	p. 24
Returns in the Presence of Cash Flows	p. 27
Cash Flows	p. 27
Unit Value Method	p. 28
Time-Weighted Return	p. 30
Linked Internal Rate of Return	p. 33
The Dietz Method	p. 36
Subportfolio Returns and Consistency	p. 38
Time-Weighted versus Money-Weighted Returns	p. 40
Comparing Two Portfolio Returns	p. 47
Excess Returns Over a Benchmark-Past Performance	p. 48
Compound Excess Return	p. 51
Situations Where the Arithmetic Excess Return Is the Appropriate Choice	p. 53
Recommended Practice	p. 55
Some Foundations	p. 57
The Risk-Free Rate	p. 57
Market Equilibrium	p. 59
The CAPM of Sharpe, Lintner, and Mossin	p. 60
Arbitrage Pricing Theory (APT) and Other Asset Pricing Models	p. 65
Estimating the Elements of the CAPM	p. 67
The CAPM with Constant Alpha and Beta Over Time	p. 67
Problems with the Use of Inappropriate Benchmarks	p. 69
Other Estimation Problems	p. 71
What Is Risk	p. 79
Types of Risk	p. 79
A Basic Measure of Risk as Volatility in Returns	p. 81
Measuring Bad Variation	p. 84
Covariance	p. 88
Tracking Error and Residual Risk	p. 90
Risk-Adjusted Return Measures	p. 93
Sharpe Ratio	p. 94
Sortino Ratio	p. 96
Modigliani-Modigliani Measure	p. 97
Jensen's Alpha	p. 99
Treynor's Measure	p. 100
Appraisal Ratio and Information Ratio	p. 101
Comparing the Risk-Adjusted Measures	p. 102
Fixed-Income Risk	p. 105
Duration: Macaulay, Modified, and Effective Duration	p. 107
Convexity	p. 111
Prepayment Risk for Mortgages and Callables	p. 113
Issuer-specific Risk, Default Risk, and Correlated Default Risk	p. 114
Conditional Performance Evaluation	p. 117
Models for Performance Measurement	p. 119
Logic of Conditional Performance Evaluation	p. 119
Unconditional Alphas and Betas	p. 121
Time-Varying Conditional Betas	p. 122
Time-Varying Conditional Alphas	p. 123
Benchmark Portfolios	p. 125
Implications for Investors	p. 126
Market Timing	p. 127
Merton-Henriksson Market Timing Model	p. 127
Treynor-Mazuy Model	p. 129
Up-Down Market Model: Up Market versus Down Market Beta	p. 133
The Problem of Non-Timing-Related Nonlinearities	p. 133
Factor Models	p. 137
The Single Index Model	p. 137
Multiple Factor Models	p. 138
Factor Model Analytics	p. 140
A Simple Example	p. 141
Factors of Equity Returns in the United States	p. 147
Various Factor Model Factors	p. 147
The Barra Factors	p. 150
Factor-Mimicking Portfolios: High-Low Approach and Factor Extraction Approach	p. 154
Factor Model (Barra) Performance Attribution	p. 157
Attribution "Executive Summary"	p. 158
Total Annualized Attribution Chart	p. 160
Annual Attribution Report	p. 162
Annualized Contributions to Risk Indexes	p. 164
Industries: Top-10 and Bottom-10 Contributors to Active Return	p. 166
Asset Selection: Annualized Attribution	p. 169
Contributions to Return	p. 171
Performance Attribution	p. 177
Sector-Based Attribution Framework	p. 178
Single-Period Arithmetic Sector-Based Attribution	p. 182
Linking Attribution Effects	p. 191
Multiperiod Contributions to Return	p. 192
Excess Return Recursion	p. 197
An Idealized Attribution System	p. 199
Logarithmic Linking Coefficients	p. 202
A Link to Recursive Methods	p. 204
Other Methods	p. 205
Example	p. 207
Other Topics	p. 210
Notes	p. 212
References	p. 213
Benchmarks and Knowledge	p. 215
Peer Universes	p. 216
Passive Market Indexes	p. 221
Manager-Specific Stock-Matching Benchmark: Normal Portfolios	p. 223
For What Should a Manager Be Given Credit?	p. 228
Elements of a Desirable Benchmark	p. 231
Origins of U.S. Equity Benchmarks	p. 231
The Fundamental Meaning and Purposes of a Financial Index	p. 233
Where You Stand on the "Best" Indexes Depends on Where You Sit	p. 235
The Best Index Is Based on Four Principles of Useful Indexes	p. 238
Desirability Trade-Offs	p. 241
Issues with Index Construction	p. 243
The Paradox of Asset Management	p. 245
Index Weighting	p. 247
Advantages and Disadvantages of Capitalization Weighting	p. 248
Portfolio Equity Characteristics: Capitalization Weighting versus Equal Weighting	p. 251
Challenges to Capitalization Weighting	p. 253
Practical Issues with Building Indexes	p. 259
Index Calculations	p. 259
Decisions That Have to Be Made by the Index Creator	p. 264
Russell U.S. Equity Index Construction	p. 266
Styles, Factors, and Equity Benchmarks	p. 275
Defining Equity Style	p. 275
Types of Equity Styles	p. 278
Evidence of Styles	p. 284
Historical Perspective on Styles	p. 286
CAPM, Factor Models, and the Behavior of Styles	p. 287
Which Equity Style Is Best?	p. 288
Equity Style Indexes: Tools for Better Performance Evaluation and Plan Management	p. 293
Introduction	p. 293
Style Definitions	p. 294
Performance Evaluation and Styles	p. 296
Style Index Construction	p. 299
Validation of Style Indexes	p. 302
Uses of the Style Indexes	p. 308
Conclusion	p. 311
Russell Style Index Methodology	p. 313
Style Index Algorithm	p. 314
Rationale for Key Features	p. 320
U.S. Equity Benchmarks	p. 325
S&P and S&P/Citigroup Family of Indexes	p. 326
Dow Jones Indexes	p. 328
Russell Indexes	p. 329
MSCI Family of Indexes	p. 331
CRSP Composite and Decile Indexes	p. 333
Other Indexes: NYSE and NASDAQ Indexes	p. 334
Comparing Index Construction Issues	p. 335
Index Comparisons	p. 340
Conclusion	p. 346
Global and International Equity Benchmarks	p. 347
Global versus International	p. 347
MSCI Index Family	p. 350
Dow Jones Global Indexes	p. 353
S&P/Citigroup Global Indexes	p. 354
FTSE Index Family	p. 357
Russell/Nomura Indexes	p. 359
Russell Global Indexes	p. 363
Conclusion	p. 371
Fixed-Income Benchmarks	p. 373
Fixed-Income Benchmark Construction Difficulties	p. 373
Barclays Capital Family of Global Fixed-Income Indexes	p. 377
Merrill Lynch Fixed-Income Index Family	p. 383
J.P. Morgan Family of Fixed-Income Indexes	p. 385
Real Estate Benchmarks	p. 387
Real Estate Index Construction Issues	p. 388
Private Real Estate Indexes	p. 400
Publicly Traded Real Estate Security Indexes	p. 403
Hedge Fund Universes	p. 409
Hedge Funds as Absolute Return Strategies	p. 409
Hedge Fund Indexes	p. 412
Building a Good Hedge Fund Index	p. 412
Inherent Problems with Universes of Hedge Funds	p. 414
Available Hedge Fund Indexes	p. 416
Determining Investment Style	p. 421
Approaches to the Style Classification Problem	p. 422
Effective Mix: A Returns-Based Methodology	p. 426
Effective Mix Limitations and Maximizing Usefulness	p. 433
Conclusion	p. 448
GIPS: Global Investment Performance Standards	p. 449
The Reason for GIPS	p. 449
Overview of GIPS	p. 451
Index	p. 453
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