# obscure formula

Hey guys, I came across the following formula, which I remember seeing in the CR. It’s used to determine whether a portfolio addition will enhance your sharpe ratio: New Sharpe ratio > your old portfolio sharpe ratio * the correlation between the new portfolio and the old portfolio where new portfolio is the portfolio with the addition and old is without it. I recall it wasn’t in Schweser but I can’t find it in the CR now and I can’t remember how to apply it. Does anyone here remember?

Its’ used to determine if a new investment is worth adding or not. If the New investments SR is higher than the Portfolios Sharpe times the Correlation then Add it, if not don’t add it.

it was in schweser somewhere…and bigW’s right. you use it in determining if a new asset will increase the risk adjusted returns of the portfolio and therefore should be added.

This was in Schweser (I think) but they didn’t make a big deal about it. This is such a simple, but non-intuitive calc, that seems like an easy 3-4 points that could very likely show up on an asset allocation problem.

its in CFAI Reading 25, Asset Allocation

bigwilly Wrote: ------------------------------------------------------- > Its’ used to determine if a new investment is > worth adding or not. If the New investments SR is > higher than the Portfolios Sharpe times the > Correlation then Add it, if not don’t add it. Okay, so when you say New investment’s Sharpe Ratio do you mean the portfolio with the new investment or the new investment in isolation?

Isolation.

For example… IF a L/S Equity Hedge Fund sharpe was 0.4 and the Current Portfolio was 0.9 but the Correlation between them was 0.1. Then 0.9 * 0.1 = 0.09 Since 0.4> 0.09 then add the Hedge fund.

BugEyedEarl Wrote: ------------------------------------------------------- > Hey guys, I came across the following formula, > which I remember seeing in the CR. It’s used to > determine whether a portfolio addition will > enhance your sharpe ratio: > > New Sharpe ratio > your old portfolio sharpe ratio > * the correlation between the new portfolio and > the old portfolio > > where new portfolio is the portfolio with the > addition and old is without it. > > I recall it wasn’t in Schweser but I can’t find it > in the CR now and I can’t remember how to apply > it. > Does anyone here remember? To clarify, I believe the formula says if the Sharpe Ratio of the new ASSET > SR of original portfolio x corr(NEW ASSET,orig port), you should add the new asset. The formula as you have written implies you are comparing the SR of the new portfolio and the old portfolio. In this case, if the corr is <1, the new SR will always be higher.

thanks guys

it’s not in schweser.