Treynor can help your personal portfolio
Investments and risk have been compared to many things, but t he one t hing t hat will surely get enthusiasts’ blood f lowing i s comparing i nvest ment ri s k t o cricket. But why? On one side, you f i nd players l i ke Chris Gayle who can score 200 r uns from only a few balls, only to be taken out the next day after one or t wo overs with less t ha n 10 r u ns. Then t here’s t he t y pical f i ve- day batsman who can spend an entire day dilly-dallying in front of the wickets to score a measly 50 runs.
I n my opinion, Hashim Amla represents perfect balance. While giving us t he i mpression t hat he is a slow batsman, he i s act ually t he fastest batsman to score 20 centuries, he holds a hit rate of 89% and 42% of his One Day Internationl (ODI) runs were scored through boundaries.
It ’s easy to compare his regular high scores to a standard deviation i n an i nvestment. The higher t he standard deviation, t he more r isky t he i nv es t ment, whi l e a l o wer standard deviation not only lowers the investment risk, but also means that the batsman isn’t always bowled out early in the game.
Apart from this standard deviation, one of the many risk ratios one ca n use to s how t he r et urns versus the risk that should be taken, is the Treynor ratio.
Th e Tr ey n o r ratio is used t o ev a l u a t e t he pe r f or mance of dif ferent actively managed f unds while measuring t he r et u r ns on t hese i nvestments versus t he r i sk. The higher this ratio, the better the f und’s performance relative to t he amount of r isk, or put differently, the investor received a higher return on his i nvestment r el at i ve to his risk. Before we look at the Treynor r at i o, however, it i s i mportant to understand t he concepts of market and company-specif ic r isk, as well as the beta of a fund.
Market risk is the risk associated with certain economic factors in the market and i nvestors usually have ver y l it t le control over t his. When l ooking at t he great correction of 20 08, i t didn’t matter how wel l di v er si f i e d i nvestors were – t he moment the market started to react to t he bad news, companies/shares started to suffer.
Company-specif ic risk is the risk associated with a specif ic company or share. This r i sk can usually be lowered by means of diversif ication. The beta of an investment measures t he market r i sk of t he i nvestment and to which extent the investment returns move with the market.
The Treynor ratio i s calculated by subtracting the risk-free returns, s uch as money market, f rom t he investment returns and then placing it relative to the beta. The result is ret urns per unit of market r i sk as opposed to total risk.
This ratio can be used to compare different ‘ batsmen’. When applying the Treynor to local general shares unit trusts (excluding fund of funds) over the past f ive years, you will see that the f ive f unds below stand out as t he ‘i n shape’ players over t his period. They ar e: 36ONE MET Equity, Marriott Dividend Growth, PSG Equity, Momentum Best Blend Specialist Equity and Foord Equity.
I know historica l data predicts as much as who will be scoring a
Portfolio Manager at PSG Wealth
Sep 10 A - High Treyor UT - General Equity [164.49%] B - FTSE JSE All Share [119.89%]
SOURCE: Financial Express century in the next Proteas match, but if you had invested 20% in each of t hese f unds, your returns would have been noticeably higher t han t he FTSE/ JSE All Share Index at a lower average standard deviation. Foord do e sn’t d ispl ay its shareholding, but if you combine the f ive highest Treynor funds (out of the top si x), those who believe in their choices of shares would be excited to know that the top 10 average share holding consists of: Bidvest, Britsh American Tobacco, Life Healthcare Group, MTN, Mr Price, Nampak, Na sp e r s * , S A BMi ll e r , Sa s o l , Steinhoff.
Although no one may know what the markets will bring tomorrow, I know that in compiling my investment plan, I would def initely choose the players who are in shape.