Sharpe ratio vs. M^2

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FrankCFA

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For picking manager, these two will produce the same result. Any situation we may need to consider using M^2 instead of sharpe ratio? Sharpe ratio is easier to calculate
 
I’m failing to understand what you mean by them producing the same results?
 
FrankCFA wrote:
For picking manager, these two will produce the same result. Any situation we may need to consider using M^2 instead of sharpe ratio? Sharpe ratio is easier to calculate
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i dont think they produce the same results.
 
Do you mean produce the same ranking? As in, if Sharpe of A > Sharpe of B, then M2 of A > M2 of B which I think is true…
 
yes, sry i mean having the same ranking for the manager skill.
 
Sharpe Ratio = (Rp - rf) / std p
M^2 = rf + [(Rp - rf) / stdev p] * stdev m
Since Rf and stdev m are constants when comparing 2 portfolios / assets -
M^2 = rf + SRp * stdev m
so M^2 and Sharpe ratio will provide same ranking.
both are based on the ex-post CML.
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As to FrankCFA’s question - of why M^2 might be used – the way Sharpe Ratio is set up - it is that - simply a ratio. However M^2 is a “return value”.
Quote:
M2 is the mean incremental return over a market index of a hypothetical portfolio formed by combining the account with borrowing or lending at the risk-free rate so as to match the standard deviation of the market index.
(Institute 172)
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M^2 provides a better understanding of what return the portfolio might be expected to achieve.
hope this helps.
 
Thanks Cpk. Can I say M^2 just base on sharpe ratio to calcuate the return value?
I’m not financial/business background…sometimes I’m curious why there is so many terminologies in financial world…
 
You can say M^2 is an extension of the sharpe ratio which is a method of calculating risk-adjusted returns.
 
Galli wrote:
You can say M^2 is an extension of the sharpe ratio which is a method of calculating risk-adjusted returns.
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You might not want to use this term..
Risk-adjusted return is used by different equation. (the one involving risk aversion score)
 
Definition of Alpha (Curriculum Glossary): Excess risk-adjusted return
 
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