Performance Measurement of Portfolio Management with the Generalized Sharpe Ratio and Economic Performance Measure: Can we find improved measures?

Performance Measurement of Portfolio Management with the Generalized Sharpe Ratio and Economic Performance Measure: Can we find improved measures?

Title

Performance Measurement of Portfolio Management with the Generalized Sharpe Ratio and Economic Performance Measure: Can we find improved measures?

Authors

• Richard Lu
  Department of Risk Management and Insurance, Feng Chia University, Taichung, Taiwan
• Adrian (Wai-Kong) Cheung
  Faculty of Finance, City University of Macau, Macao, SAR, China
• Sardar M. N. Islam
  Institute for Sustainable Industries & Liveable Cities (ISILC), Victoria University, City Flinders Campus, Australia

Abstract

The objective of this paper is to examine the relative performances of the Economic Performance Measure (EPM) and the Generalized Sharpe Ratio (GSR) for measuring portfolio performance. In addition, which estimation method (parametric vs nonparametric) provides us with better results? It is found that both GSR and EPM provide rankings consistent with high-order risk preference, but the SR does not. The parametric GSR and EPM do not always approximate well to the nonparametric ones. The nonparametric GSR and EPM can solve the problems of the Sharpe ratio paradox and the manipulated Sharpe ratio. Furthermore, a comparison between a Buy-and-Hold (BH) strategy and a Constant Proportion Portfolio Insurance (CPPI) strategy reveals that BH performs better in terms of SR. At the same time, CPPI is better in terms of EPM(NP) and GSR(NP), suggesting that the nonparametric GSR and EPM solve the CPPI problem satisfactorily. Thus, GSR and EPM are preferred over the SR for measuring portfolio performance when the data is non-normal or investors have higher-order risk preferences. For estimation purposes, the nonparametric approach is recommended. Therefore, this study has significant academic and practical implications for designing portfolios and investment planning.

Keywords

Sharpe Ratio, Generalized Sharpe Ratio, Economic Performance Measure

JEL Codes: D81 G11

How to Cite

Lu, R., Cheung, A. W.-K., & Islam, S. M. N. (2022). Performance Measurement of Portfolio Management with the Generalized Sharpe Ratio and Economic Performance Measure: Can we find improved measures? The International Journal of Finance, 34(1), 40–63.