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FRM Part II · FRM Exam Part II · VaR and Risk Budgeting in Investment Management

A portfolio has an expected return of 10%, the benchmark return is 7%, and the tracking error (standard deviation of active return) is 4%. The risk-free rate is 2%, and portfolio volatility is 15%. What is the portfolio's information ratio?

The information ratio is 0.75. It equals the active return over the benchmark, 3%, divided by the tracking error of 4%. It measures excess return relative to benchmark per unit of active risk, not total risk or the risk-free rate.

  1. A0.20
  2. B0.53
  3. C0.75Correct
  4. D2.00

Explanation

Information ratio = active return / tracking error = (10%-7%)/4% = 0.75. Using the risk-free rate and total volatility gives the Sharpe ratio, 8/15 = 0.53, which is a different measure. 0.20 uses 3/15 and 2.00 uses 8/4.

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