FRM Part II · FRM Exam Part II · Portfolio Performance Evaluation
A manager's portfolio returned 11%, with beta 1.2 versus the market. The risk-free rate is 3% and the market return is 9%. What is Jensen's alpha?
Jensen's alpha is +0.8%. The CAPM expected return is 3% plus 1.2 times the 6% market premium, or 10.2%. Subtracting this from the realized 11% leaves 0.8%. Comparing to the market return of 9% without adjusting for beta would wrongly give 2%.
- A+2.0%Correct
- B+1.8%
- C-0.2%
- D+0.8%
Explanation
Expected return = 3% + 1.2 x (9% - 3%) = 10.2%. Alpha = 11% - 10.2% = 0.8%. Using the raw market excess without beta gives 11-9 = 2%, which is wrong.
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