5. How Well Are Your Investments Really Doing? Risk-Adjusted Performance

Now that you understand the importance of investment risk and how to measure it, you are equipped to compare the performance of different investments, taking both risk and reward into account. Investment reward is easy to understand. It is simply the historical compounded annual rate of return. Appendix 5A describes in detail the formula to calculate this using the length of the period you are studying and the values of the investment at the beginning and end of that period. This chapter considers two different measures of risk-adjusted performance. The first, a ratio between investment returns and drawdown is, in my opinion, more intuitive. The second, the Sharpe ratio, ...

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