NISM-Series-V-A: Mutual Fund Distributors · Mutual Fund Scheme Selection

How to Evaluate Mutual Fund Scheme Performance and Benchmarks

Q: What is a TRI benchmark in mutual funds?

TRI stands for Total Return Index. It measures index performance assuming dividends from the index companies are reinvested. It is the fairer benchmark for a fund because the fund's NAV also includes the dividends its holdings pay.

Q: What is the difference between absolute and relative return?

Absolute return is the gain a scheme earned on its own, such as 12%. Relative return compares that gain with a benchmark or peers, such as 2% above the benchmark. Relative return shows whether the manager added value.

Q: What is the difference between Sharpe ratio and Treynor ratio?

Both measure excess return over the risk-free rate per unit of risk. Sharpe divides by standard deviation, which is total risk. Treynor divides by beta, which is market risk only.

Q: Does a high Sharpe ratio mean a good fund?

A higher Sharpe ratio means better return for the risk taken, over the period measured. It is most useful when comparing funds in the same category over the same period. It does not predict future results.

Updated 11 October 2026 · Fact-checked

Evaluating a scheme means comparing its returns with a suitable benchmark (preferably the Total Return Index, TRI), with peers in the same category, and after adjusting for risk. Sharpe and Treynor ratios measure return per unit of risk. Alpha shows the excess return over what risk justified.

Understand Evaluating Scheme Performance and Benchmarks

A return figure alone tells you very little. A fund that gave 14% may look good, but if its benchmark gave 18% it lagged. If its category peers gave 12% with the same risk, it did well. So you always judge a scheme against something.

There are three yardsticks. Absolute return is what the scheme earned on its own, for example 14% a year. Relative return is the scheme's return compared with a benchmark or peer group, for example 2% above the benchmark. Relative return tells you whether the fund manager added value.

A benchmark must match the scheme's mandate. A large-cap fund is compared with a large-cap index, not a small-cap index. A Total Return Index (TRI) assumes dividends paid by index companies are reinvested in the index. A price index ignores dividends. Since a fund's NAV reflects dividends earned by its portfolio, TRI is the fairer comparison. SEBI requires schemes to benchmark against TRI.

Return must also be judged against risk. Standard deviation measures how much returns fluctuate. Beta measures sensitivity to the market: a beta of 1 means the fund moves with the market, above 1 means it swings more, below 1 means less. Sharpe ratio divides excess return over the risk-free rate by total risk (standard deviation). Treynor ratio does the same using beta, so it measures systematic risk only. Alpha is the return above what the fund's beta would predict. Positive alpha means the manager added value.

Finally, compare peers in the same category, over the same period, and over several time frames. Compare only like with like. Past performance does not guarantee future returns.

Key formulas to remember

Absolute return: (Ending NAV − Beginning NAV) ÷ Beginning NAV × 100; Add dividends or income distributed if any. Used for periods up to one year.
Relative return (excess return): Scheme return − Benchmark return; Positive means the scheme outperformed. Use the same period and the TRI.
Sharpe ratio: (Rp − Rf) ÷ σp; Rp is scheme return, Rf is risk-free rate, σp is standard deviation. Higher is better. Uses total risk.
Treynor ratio: (Rp − Rf) ÷ βp; Uses beta, so only market (systematic) risk. Higher is better.
Alpha (Jensen's): Rp − [Rf + β × (Rm − Rf)]; Rm is market or benchmark return. Positive alpha means return above what risk justified.
Beta reading: β = 1 moves with market; β > 1 more volatile; β < 1 less volatile; Beta measures sensitivity to market movement, not total risk.

How to solve Evaluating Scheme Performance and Benchmarks questions

Use this method for any question on performance evaluation, whether it is a calculation or a concept.

1Identify what is asked: absolute return, relative return, a risk-adjusted ratio, or a benchmark concept.
2Note the inputs: scheme return, benchmark return, risk-free rate, standard deviation, beta. Check that all use the same period.
3If it asks which benchmark is right, pick the index that matches the scheme's category and prefer TRI over the price index.
4For Sharpe, subtract the risk-free rate first, then divide by standard deviation. For Treynor, divide by beta instead.
5For alpha, compute the expected return using Rf + β × (Rm − Rf), then subtract it from the actual return.
6When comparing two funds, rank by the ratio asked. Higher Sharpe or Treynor is better, with the same period and category.
7Check the answer: does the sign and size make sense? Then match it to the options.

Quickest way: Spot the ratio, then subtract before dividing

When to use it: Use this for ratio questions where options differ by small amounts or by trap values.

Underline the word Sharpe, Treynor or alpha. Sharpe means σ, Treynor means β.
Always compute Rp − Rf first. Many wrong options come from skipping this.
Divide by the right risk number and compare with the options.
For concept questions, remember: TRI includes dividends, Sharpe uses total risk, Treynor uses systematic risk, positive alpha is outperformance.

Common mistakes in Evaluating Scheme Performance and Benchmarks

Dividing the scheme return by standard deviation without subtracting the risk-free rate.
Students remember the division and forget the numerator is excess return.
Fix: Write (Rp − Rf) first every time, then divide.
Mixing up Sharpe and Treynor risk measures.
Both look alike and both use excess return.
Fix: Sharpe uses standard deviation (total risk). Treynor uses beta (market risk only).
Thinking a price index is the better benchmark.
Students know the Nifty 50 as a price index and assume it is standard.
Fix: TRI reinvests dividends, matching how a fund's NAV works, so it is the like-for-like benchmark.
Treating beta as total risk.
A high beta feels like high risk generally.
Fix: Beta measures sensitivity to market moves only. Total risk is standard deviation.
Comparing a fund with a benchmark or peers from a different category or period.
Students focus on the number, not on whether the comparison is fair.
Fix: Check the category, mandate and time period match before comparing.
Assuming positive alpha guarantees future outperformance.
Alpha looks like proof of skill.
Fix: Alpha is a past measure. Past performance does not guarantee future returns.

Worked examples

Example 1

Scheme A returned 15% a year with a standard deviation of 10% and a beta of 1.2. Scheme B returned 13% with a standard deviation of 6% and a beta of 0.8. The risk-free rate is 6%. Which scheme has the higher Sharpe ratio, and what is it?

Show the solution

Scheme A excess return = 15 − 6 = 9%.
Scheme A Sharpe = 9 ÷ 10 = 0.90.
Scheme B excess return = 13 − 6 = 7%.
Scheme B Sharpe = 7 ÷ 6 = 1.17 (approx.).
Compare: 1.17 is greater than 0.90.

Answer: Scheme B has the higher Sharpe ratio, about 1.17, so it gave more return per unit of total risk even though its return was lower.

Example 2

A scheme returned 14% in a year. Its beta is 1.5, the risk-free rate is 6% and the market (benchmark TRI) returned 10%. Calculate its Treynor ratio and alpha.

Show the solution

Excess return = 14 − 6 = 8%.
Treynor ratio = 8 ÷ 1.5 = 5.33 (approx.).
Expected return = 6 + 1.5 × (10 − 6) = 6 + 6 = 12%.
Alpha = actual − expected = 14 − 12 = 2%.

Answer: Treynor ratio is about 5.33 and alpha is +2%, meaning the scheme earned 2% more than its beta justified.

Exam tips

Expect definition questions: what TRI is, what beta of more than 1 means, and which ratio uses which risk measure.
Read the options for the trap: price index versus TRI, and standard deviation versus beta.
In calculations, always subtract the risk-free rate first. Do the arithmetic on rough values to save time.
Remember that comparisons are valid only for the same category and period, and that past performance is not a guarantee.
V-A has no negative marking, so attempt every question and eliminate wrong options first.

Practice questions from Mutual Fund Scheme Selection

Evaluating Scheme Performance and Benchmarks: frequently asked questions

What is a TRI benchmark in mutual funds?

TRI stands for Total Return Index. It measures index performance assuming dividends from the index companies are reinvested. It is the fairer benchmark for a fund because the fund's NAV also includes the dividends its holdings pay.

What is the difference between absolute and relative return?

Absolute return is the gain a scheme earned on its own, such as 12%. Relative return compares that gain with a benchmark or peers, such as 2% above the benchmark. Relative return shows whether the manager added value.

What is the difference between Sharpe ratio and Treynor ratio?

Both measure excess return over the risk-free rate per unit of risk. Sharpe divides by standard deviation, which is total risk. Treynor divides by beta, which is market risk only.

Does a high Sharpe ratio mean a good fund?

A higher Sharpe ratio means better return for the risk taken, over the period measured. It is most useful when comparing funds in the same category over the same period. It does not predict future results.