Modigliani Ratio Calculator

The Modigliani Ratio, often abbreviated as MR, is a performance measure that adjusts the risk of an investment portfolio for comparison purposes. It quantifies the risk-adjusted return, allowing investors to compare the performance of various investment portfolios.

Historical Background

The Modigliani Ratio was developed by Franco Modigliani and his granddaughter, Leah Modigliani. It is an extension of the Sharpe Ratio, designed to make the Sharpe Ratio's results more interpretable by adjusting them to a common scale. This allows investors to directly compare the returns of different portfolios as if they had the same level of risk.

Calculation Formula

To calculate the Modigliani Ratio (MR), use the following formula:

\[ MR = \frac{AER}{SD} \]

where:

• \(MR\) is the Modigliani Ratio,
• \(AER\) is the average excess returns over the period, and
• \(SD\) is the standard deviation of the returns.

Example Calculation

If the average excess returns of a portfolio are $120 and the standard deviation of the returns is 15, the Modigliani Ratio can be calculated as follows:

\[ MR = \frac{120}{15} = 8 \]

Importance and Usage Scenarios

The Modigliani Ratio is valuable for comparing the performance of different investment portfolios by normalizing their risk profiles. It is particularly useful for investors and fund managers who aim to evaluate the effectiveness of their risk-adjusted returns.

Common FAQs

1. What distinguishes the Modigliani Ratio from the Sharpe Ratio?

   • While both measure risk-adjusted returns, the Modigliani Ratio expresses these returns in absolute terms, making it easier for investors to compare different portfolios directly.

2. Can the Modigliani Ratio be negative?

   • Yes, a negative Modigliani Ratio indicates that the portfolio's average excess returns are negative, suggesting underperformance compared to the risk-free rate.

3. How does the Modigliani Ratio aid in investment decisions?

   • By providing a clear, risk-adjusted measure of return, it helps investors choose between investment options by highlighting those that offer higher returns per unit of risk.

This calculator streamlines the computation of the Modigliani Ratio, offering a simple tool for investors to assess and compare the performance of their investment portfolios.