Evaluating Portfolio Performance

Abstract

Abstract This chapter presents the major approaches for assessing portfolio performance in the presence of asset selection and market timing skills. Given the difficulty of reconciling these two performance drivers, several ways to get a synthetic measure are proposed, but they do not fully reflect the joint qualities displayed by the portfolio manager. In a recently suggested option replication approach, linear and quadratic coefficients of the Treynor and Mazuy regression are combined to assess performance in the presence of market timing. This new correction has the potential to overcome the “artificial timing” bias and delivers encouraging results on a sample of 1,413 US mutual funds selected for an empirical analysis. Unlike alternative approaches proposed in the literature, most positive market timers seem to be rewarded for the convexity they add to their portfolio, while negative market timers are penalized, and a correlation between abnormal performance and the convexity parameter is found.

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