Question

Suppose the risk-free return is 4%. The beta of a managed portfolio is 1.2, the alpha is 1%, and the average return is 14%. Based on Jensen's measure of portfolio performance, you would calculate the return on the market portfolio as

Answer 1

The return on the market portfolio is computed as shown below:

Alpha = Average return - [ risk free return + beta ( return on market portfolio - risk free return ) ]

0.01 = 0.14 - [ 0.04 + 1.2 ( return on market portfolio - 0.04 ) ]

0.01 = 0.14 - [ 0.04 + 1.2 return on market portfolio - 0.048 ]

0.01 = 0.14 - 0.04 - 1.2 return on market portfolio + 0.048

1.2 return on market portfolio = 0.14 - 0.04 + 0.048 - 0.01

return on market portfolio = 11.5%

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