Mutual Fund Unlocked: Information Ratio and Sortino Ratio

After understanding the portfolio turnover ratio and Up/Down market capture ratios, let's look into the ratios which will evaluate the risk involved in the mutual fund investment.

Sortino ratio is one of the statistical tools which measures the investment performance with reference to the downward deviation, that is, it assess the standard deviation of negative return of assets. The ratio is calculated by deducting the risk-free rate of return from overall portfolio’s return and divides that with the downside deviation. Therefore, the ratio shows the accurate picture of the downside risk involved in the investment or fund.

So, the formula is

As the ratio evaluates the downside volatility, higher Sortino ratio suggests the lower probability of losses and vice versa. Sortino ratio is best suited to analyse highly volatile portfolios funds.

To evaluate the returns from the portfolio relative to the returns from the index or Benchmarks, information ratio is used. The ratio also evaluates the investment managers ability to make additional returns relative to index and investigate the consistency of the manager.

Information ratio is calculated by dividing excess returns from the portfolio over predefined index by standard deviation of those extra returns.

So, the formula is

                          Information Ratio= (Rp-Ri)/ Standard deviation of monthly (Rp-Ri)

Where,

The information ratio is very useful tool to analyse the set of funds with the similar management strategies or styles. The higher information suggests the higher consistency and performance of the fund/investment manager.