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29

Larry Harris has a chapter on performance evaluation in Trading and Exchanges. He states that over a long period of time, a skilled asset manager will consistently have excess returns whereas a lucky one will be expected to have random and unpredictable returns. Thus, we start with the portfolio's market-adjusted return standard deviation: \begin{equation} ...


9

Some links: http://www.scribd.com/doc/34567320/Untangling-Skill-and-Luck http://web.ist.utl.pt/adriano.simoes/tese/referencias/Papers%20-%20Pedro/UK%20mutual%20fund%20performance%20Skill%20or%20luck.pdf Below is some code that I used recently to illustrate luck (and con-games). The story went like this: I'll dream up your lucky lottery number for ...


9

In order to have a shot at separating skill from luck, you need a sense of what luck looks like. I think the best chance of understanding luck is to use random portfolios. See, for instance: http://www.portfolioprobe.com/about/random-portfolios-in-finance/


6

Here are couple references. Especially the first link to Andy Lo's paper contains a list of Sharpe ratios of popular mutual and hedge funds: The Statistics of Sharpe Ratios Dow Jones Credit Suisse Hedge Fund Index Hedge Fund Performance and Generalized Sharpe Ratios I would go with the first paper.


5

The answer your are looking for might be the story in "Benchmarking Measures of Investment Performance with Perfect-Foresight and Bankrupt Asset Allocation Strategies", by Grauer (Journal of Portfolio Management). While this work main concerns are the differential ranking of various performance measures and with negative betas for market timing strategies, ...


4

In this case, the t-statistic is used to determine if the returns are statistically different from zero (the theoretical mean). A small t-statistic would imply that the null hypothesis (no significant excess return) cannot be rejected. Newey-West standard errors are used to correct for the correlations of error terms over time. I have written a Matlab ...


4

Read Fooled by Randomness by Nassim Taleb. In a nutshell, he says that you can only tell the difference by understanding the risks that were taken. Lucky investors can win for many years before blowing up. Even if he doesn't blow up, there is no way to know what might have happened if the risks turned out badly.


4

Take a look at White's Reality Check. Another very crude way would be to calculate a "skill score" (from The Mathematics of Technical Analysis, p325) $$\tt{skill\ score} = \frac{SKILL\_correct - NOSKILL\_correct}{Total\ decisions - NOSKILL\_correct}$$ SKILL_correct: the profitable trades NOSKILL_correct: randomly assigned trades that were profitable ...


3

I would even stick to the original paper by Sharpe (1966): Mutual Fund Performance. The Journal of Business Vol. 39, No. 1, Part 2 pp.119--138 If you look at the numbers on Page 6 you can see that the funds sharpe ratios roughly are between $0$ and $1$. Since the Sharpe ratio already adjusts for the risk-free rate, you cannot really argue about its ...


3

Perhaps check out Poti and Levich (2009), or in a different setting but from one of the same authors, Poti and Wang (2010) "The coskewness puzzle" in JBF. They directly address the issue of what level of SR is plausible.


3

Pardon the lack of an actual link, and the formatting, but in footnote 6 of "Alpha is Volatility times IC times Score", Grinold, Richard C., Journal of Portfolio Management, Summer 1994 v20 n4 p9(8), Grinold suggests that "a truly outstanding manager" might have an information ratio of 1.33: (6) A rough guideline for determining the required IC comes from ...


3

I was going to suggest that you use alpha, which is the measure of a managers excess return beyond their benchmark. But here is an alternative view which is quite interesting. http://money.usnews.com/money/blogs/Fund-Observer/2010/06/24/just-how-lucky-is-your-mutual-fund-manager


2

I remember an article from graduate school that describes a methodology for measuring the true timing ability of a money manager. I don't remember the name of the article nor the name of the author, however, I do remember some of the details of the article. Maybe someone else has run across it and would be kind enough to post the appropriate reference. ...


2

cost of leverage for equity only long/short investing is a function of the margin deal you can negotiate with your broker, if you have a large amount of capital. If you don't have significant capital to start with, then it's likely you'll only be able to get 2x leverage with a loan rate between 4% and 10% (retail reg-t margin rates at most brokers) This ...


2

There are a number of issues here. First, there are a number of methodologies called “performance attribution” each providing answers to different questions. So I am not sure what type of question you wish to address. I will here assume that you wish to evaluate the effects of investment decisions as opposed to the effects of market factors. I will also ...


2

Martijn Cremers and Antti Petajisto have a series of papers using the concept of "Active Share," a new measure of active portfolio management which represents the share of portfolio holdings that differ from the benchmark index holdings, to evaluate mutual fund managers. They find that the most active stock pickers have outperformed their benchmark indices ...


2

Edited Comments: Sharpe Ratio covers both future and historical time frames (as @Freddy points out). Referencing the "Geometric Return and Portoflio Analysis", for the historical calculation, you want to make as few assumptions as possible (in my opinion). Let $m_i \triangleq$ the monthly return for period $i$ and $r_t \triangleq$ annual return, for ...


1

In Forecasting Financial Market Volatility Ser-Huang Poon dedicated entire chapter to the question, so the issue is far from simple. I don't believe there one single best way because of many questions that depend on model form and application such as Should one evaluate volatility or variance, or perhaps ln(vol)? What is the benchmark - volatility is ...


1

Accurate performance reporting is an important subject. The amount and timing of monies in an account is just one of the aspects affecting the performance. Others include taxes, fees, day count convention and benchmark construction. One of the frameworks often referenced for that matter are the Globale Investment Performance Standards (GIPS). The standards ...


1

Maybe the following guidelines help: Big picture: For performance measurement purposes you should compare returns not absolute values. You need to convert all time series into percent returns which in itself takes care of normalization. Also as next step you do not only want to measure out or under performance in terms of return performance but in ...


1

seems to me that the rate used depends on the corresponding strategy's grip on funding: that is to say, if the strategy is self-financing, rf=0 when calculating sharpe (in the sense that your costs of funds is zero in construction of the strategy); if it requires an outlay at t_0, an amount which is tied up throughout the time frame of the year, rf should be ...


1

I think you need to exactly define which ratio you are talking about. For example the ex-post Sharpe ratio's components are all well known. You have your realized returns, risk free returns (or whatever other benchmark you define your excess returns against) and realized volatility of returns. For realized asset returns you should not use log returns but ...


1

I'm not sure what you mean exactly by "does it matter...", but generally speaking it should not surprise you that your alpha is not significant, as many trading strategies are more or less "transformations" of beta. In the purest sense, alpha is not easy to accomplish, and various forms of the EMH would say that it is nearly impossible to achieve it for a ...


1

I believe there are several questions being asked. Since there are several behavioural patters that could be measured I suggest to first identify which is of most interest. See Hersh for a good summary of patterns. For most behavioural patterns that I can think of you would need transaction data.


1

Can we make the assumption that the amount of each dividend is directly correlated to the amount of time between dividends? This would be the case if there were a fixed dividend payout ratio, or whatever the equivalent vocabulary is for this instrument. If so, you could annualize each dividend by the number of days since the previous dividend. The reason ...


1

A very well thought through exposition on the matter is given in this paper: A Consultant’s Perspective on Distinguishing Alpha from Noise by John R. Minahan It combines a lot of wisdom and common sense that sometimes seems to get lost in the process...


1

My 2c worth. Experience tells me that the better ways to get a feel for whether their strategy is based on something more than luck are amongst: 1) `getting to know your traders' -- have a chat, pick their brains, try to get some insight into their methods; 2) see how hard the market has been -- check whether you have just been part of a bull market which ...



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