What Is the Appraisal Ratio?

An appraisal ratio is a ratio used to measure the quality of a fund manager's investment-picking ability. It compares the fund's alpha to the portfolio's unsystematic risk or residual standard deviation. The fund's alpha is the amount of excess return the manager has earned over the benchmark of the fund. It is the portion of the return that the portfolio manager's active management is responsible for. The ratio shows how many units of active return the manager is producing per unit of risk.

Appraisal Ratio=AlphaUnsystematic Riskwhere:Alpha=rate of return for a selection of stocksUnsystematic Risk=risk of the selection of stocks\begin{aligned} &\text{Appraisal Ratio} = \frac { \text{Alpha} }{ \text{Unsystematic Risk} } \\ &\textbf{where:} \\ &\text{Alpha} = \text{rate of return for a selection of stocks} \\ &\text{Unsystematic Risk} = \text{risk of the selection of stocks} \\ \end{aligned}Appraisal Ratio=Unsystematic RiskAlphawhere:Alpha=rate of return for a selection of stocksUnsystematic Risk=risk of the selection of stocks

Understanding the Appraisal Ratio

The appraisal ration can be used to determine a manager's investment-picking ability. By selecting a basket of investments, the managers of an active investment fund attempt to beat the returns of a relevant benchmark or the overall market. The appraisal ratio measures the managers' performance by comparing the return of their stock picks to the specific risk of those selections. The higher the ratio, the better the performance of the manager in question.