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Lance wrote:
>Sorry for the length of this post, but based on the variability of the
>"risk-free rate" information that I found, I can't help but be skeptical
>of any claim of a particular Sharpe Ratio for any given system if the
>assumed "risk-free rate" is not provided along with the performance
>result.
It's not as big of a deal as you might think. The Sharpe ratio's
inclusion of the risk free rate amounts to nothing more than a fudge
factor to make the calculation more conservative. The higher you
make the risk-free rate, the more the calculation will penalize
low-return portfolios because the excess return compared to standard
deviation will be a smaller number. The number can even go negative
if you make the risk free rate high enough.
When I do stuff like this, I always assume a risk free rate of 5% per
year. Some years it's lower (like now) some years it may be higher, but
overall it's a good number for calculations.
>- Should the Discount Rate or the Investment Rate be used to calculate
>Sharpe Ratio? I would assume Investment Rate, but will everyone else
>assume the same?
Splitting hairs. This isn't an exact science. Standard deviations
assume the underlying data is normally distributed, whereas often
it's not. If you're starting out with possibly invalid assumptions,
small differences in risk free rate don't matter one whit. What you
want is some consistent basis for comparison. Using a constant rate
works fine.
>- Pardon my ignorance, but am I correct in assuming that the above
>posted 91 Day T-Bill rate is annualized (I can't believe the risk free
>rate is 1.854% every 3 months)?
To get an idea of the T-bill annualized rate, look at what a 3-month
T-bill costs, subtract that cost from $1 and multiply by 4. You
can use the T-Bill futures quotes for this if you want, it's close
enough.
--
,|___ Alex Matulich -- alex@xxxxxxxxxxxxxx
// +__> Director of Research and Development
// \
// __) Unicorn Research Corporation -- http://unicorn.us.com
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