Combining Information Ratio..

CFA Level II Portfolio Management
#1

Schweser gives an example on page 231 in Portfolio Management. Are we going to have to do this?

Analyst follows 100 stocks, makes quarterly forecasts. Information coefficient = 0.05

If you find the current Information Ratio, it is 1.

Then they tell you that the analyst chooses to follow an addiitonal 100 stocks (with quartelry forecasts), but with an information coefficient of 0.04. What will the new IR be?

The formula has [1.00^2 + (0.04)^2 (400)]^.5

Can someone please explain this equation to me? I get the seocnd part of the equation is for the additional stocks, but what about the ^2 and ^.5?

Thanks!!

#2

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#3

Suppose you have 2 information ratios: IR1 and IR2. The combining information ratio will follow the addition rule:

IR^2 = IR1^2 + IR2^2.