Which statement is true regarding M-squared?

A. It should give us portfolio rankings that are identical to those of the Sharpe ratio.
B. A portfolio with a M-squared of 0.5 underperforms the market.

Correct Answer: A

This is because both measures use total risk.

B is false: if the measure is positive, that means the portfolio outperforms the market.

M-squared adjusts an investment's risk level to match that of a benchmark, such as the S&P 500. How? To reduce the standard deviation of a volatile technology fund, for example, the Modiglianis' computer adds risk-free Treasury bills to the portfolio until it matches the S&P 500. When adjusted for risk, some top performers may not look that decidedly attractive.