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FRM Part I · FRM Exam Part I · The Building Blocks of Risk Management

A portfolio earned an average return of 11% over the year, the risk-free rate was 3%, and the portfolio's return volatility was 16%. What is the portfolio's Sharpe ratio?

The Sharpe ratio is 0.50. It equals the excess return over the risk-free rate, 11% minus 3% = 8%, divided by the total volatility of 16%. It measures reward per unit of total risk, so the risk-free rate must be subtracted.

  1. A0.50Correct
  2. B0.69
  3. C0.19
  4. D0.73

Explanation

Sharpe ratio = (Rp - Rf) / sigma = (11% - 3%) / 16% = 8/16 = 0.50. The 0.69 option ignores the risk-free rate (11/16). The 0.19 option divides the risk-free rate by volatility (3/16). The 0.73 option wrongly subtracts nothing from volatility and uses 11/15.

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