FRM Part II · FRM Exam Part II · Portfolio Performance Evaluation
A portfolio returned 14% in a year. Its benchmark returned 11%, the risk-free rate was 3%, and the portfolio beta to the benchmark was 1.2. Which is the portfolio's Jensen's alpha?
Jensen's alpha is 1.4%. The CAPM-expected return is 3% plus 1.2 times the 8% market premium, which equals 12.6%. Subtracting this from the realised 14% leaves 1.4%, the return unexplained by beta exposure.
- A3.0%
- B1.4%
- C0.2%Correct
- D-1.6%
Explanation
Expected return = 3% + 1.2 x (11% - 3%) = 3% + 9.6% = 12.6%. Alpha = 14% - 12.6% = 1.4%. Using the excess return over the benchmark (3%) ignores beta and gives a wrong figure.
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