- CFA Exams
- CFA Level I Exam
- Study Session 18. Portfolio Management (1)
- Reading 53. Portfolio Risk and Return: Part II
- Subject 4. Applications of the CAPM

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**CFA Practice Question**

Which statement is true regarding M-squared?

B. A portfolio with a M-squared of 0.5 underperforms the market.

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.

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**User Contributed Comments**
1

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Comment |
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khalifa92 |
M^2 = adjusted portfolio returns to market risk - market return = positive (negative) outperform (underperform). |