The following information on market conditions and two exchange traded funds (ETFs) has been collected for making further investment decisions. • The market risk premium is 8.50% pa; the risk of the market portfolio is 10.00% pa. • ETF X is a passively managed fund tracking the market index, it is well diversified with approximately zero residual or unsystematic risk; it earns no abnormal returns; return on ETF X is 11.00% pa. • ETF Y is an actively managed fund, it is not well diversified with a residual or unsystematic risk of 4% pa; it earns an abnormal return of 0.5% pa; return on ETF Y is 13.00% pa. • The risk-free interest rate is 3.50% pa. • All risks are measured in standard deviations.

(a) Estimate the Sharpe ratio and the Treynor ratio for ETF X and ETF Y.

(b) Which ETF would you choose if it is your only investment on the stock market? Justify your choice with the relevant performance measures.

(c) Which ETF would you choose if you have also invested in a number of ETFs? Justify your choice with the relevant performance measures.

Answer rating: 100% (QA)

a The Sharpe ratio is calculated as the excess return of the asset over the riskfree rate divided by ... View the full answer