Information ratio
Active return divided by active risk: return over a benchmark for each unit of tracking error. It measures active skill, and scaling the active positions up or down leaves it unchanged.
Where you will meet it
Information ratio appears in 8 learning outcomes on the CFA syllabus. A few of them:
- Work out the information ratio on both an ex post and an ex ante basis, explain what it means, and contrast it with the Sharpe ratio
“The information ratio divides active return by active risk.”
- Explain the role of temporary deviations from the strategic asset allocation
“Success is judged by whether the tactical overlay improved return per unit of risk, for example through a higher Sharpe or information ratio relative to the strategic allocation, net of costs.”
- Explain what performance measurement, attribution and appraisal each contribute to evaluating a portfolio and how the three link together
“Appraisal answers whether it was skill: it adjusts for risk, using measures such as the information ratio, and asks whether the results are likely to repeat.”
- Set out and explain the fundamental law of active management for portfolios and each of its terms: breadth, the information coefficient, the transfer coefficient, and active risk (aggressiveness)
“Active risk is the chosen level of aggressiveness, and the information ratio the strategy can deliver is IR = TC × IC × √BR.”
See also
Practise it
Practise information ratio until it is automatic: questions that explain every wrong option.
Take the free diagnostic →