Risk Adjusted Return - May 2021 (Must Watch This Before Investing) - YouTube

Hi everyone. i'm Benny. Today i'd like  to show you about risk adjusted return  

across financial asset classes such as  precious metal like gold and silver,  

foreign exchange or FX, oil, US  stocks as well as cryptocurrencies.  

Here we'll be talking about what risk adjusted return is, why you should care about risk adjusted  

return, why risk adjusted returns matter for your investment portfolio and also how to calculate  

risk adjusted return. If you like this  video please consider liking and subscribing  

for more videos like this and don't forget to turn on the notification bell so that  

you get notified every time i post a  new video. All right, let's get started

We are always exposed to risk whenever we are investing. Perhaps we are happy with the current  

return on our investment. However we never know what the return will be in the future. Have you  

ever thought about a condition where our return on investment is commensurate with the risk involved ?

Consider two financial assets let's  say Apple stock and Bitcoin as of 7th  

of May 2021 according to the data from Yahoo Finance the expected monthly returns  

are 3.31% and 6.55% respectively. In this time period apple has a standard deviation of 7.42%.  

It is much lower compared to Bitcoin which is at 20.2%. If we take the risk or the chance of losing  

some of the investment into account then Bitcoin's risk adjusted return would only be 0.32. This can  

be obtained by dividing the expected money return of 6.55% with its standard deviation at 20.2%. On  

the other hand Apple yields 0.45 which is higher during the same period. If we assume that both  

returns normally distributed then using function NORMSDIST in Excel the probability of losing for  

Apple stock would be 32.78 percent as compared to the probability of losing for Bitcoin is 37.29

So if we were to choose one of them which  one should we choose ? Perhaps most of us  

will pick Apple instead of Bitcoin. The  decision is most likely based on the calculation  

of risk-adjusted return, a concept that  allows us to directly compare investment  

by incorporating the risk taken to  produce their respective returns. Hence  

it is important to estimate the risk involved in generating those returns. This is known as  

risk adjusted return metric. If two investments have the same return over the same time period  

then the one with the lower risk would  have a better risk adjusted return.

There are 14 financial assets that we use in this analysis namely Apple stock, Amazon stock,  

Binance coin, Bitcoin against US dollar,  Cardano, Dogecoin, Ether, Euro against US dollar,  

gold against US dollar, Litecoin, oil,  Ripple, Silver as well as Tesla.

This is the historical daily  price of those financial assets  

from the 2nd of October 2017 until 7 of May 2021. The white horizontal lines right here represent  

the mean or average of the daily  price. Next is daily returns.  

Daily price return is simply the daily  change of price level. For example  

if the current price is 1000 with 1200 being tomorrow's price, the daily price return would  

be 1200 subtracted by 1000 and divided by 1000. It would then be equal to 20 percentage points.  

Another thing i would like to show is the historical monthly returns over time. Same as the  

previous slide these horizontal lines represent the mean or average of the monthly price returns.

Here is the price return indices. A price return index is an index that tracks the price return of  

a financial asset. It normally begins at 100. We see the dynamic of the price return indices  

from the beginning of this  year up until 7th of May 2021.

This chart shows the risk return profile namely expected monthly return against its standard  

deviation or the risk. The next graph depicts the risk return profile changes over time.

There are many ways to calculate risk adjusted return. The most popular one is by using  

Sharpe ratio which is calculated by  taking an asset return and subtracting it  

with a risk-free rate which is a return that you could get from investing in a virtually  

risk-free asset such as Treasury Bill. Here we assume 0% in our example and then dividing it  

by the standard deviation. The higher the Sharpe ratio the better the risk adjusted return will be.

The Sharpe ratio has a drawback that it treats both upside and downside volatility equally risky.  

However most investors are more  concerned with downside volatility  

than upside volatility. That's  where the Sortino ratio comes in.  

The key idea for the Sortino that we need to specify a minimum acceptable return also called  

the hurdle rate. Instead of using the risk free rate for the Sharpe ratio. And in the denominator  

instead of a plain old portfolio  volatility we use downside deviation.  

This is the chart that shows the  historical level of Sharpe ratio over time.  

You can see that the highest risk adjusted ratio for these financial assets change over time.  

But most of the time the highest Sharpe ratio since the beginning of the year would be Dogecoin which  

is getting more popular recently thanks to its growing list of influential celebrity endorser  

who frequently voice their support for the cryptocurrency on social media. The most notable  

celebrity endorser of Dogecoin however is none other than Tesla CEO as well as the words on off  

on off richest man Elon Musk. All right, that was a quick explanation about risk adjusted return.  

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That's all for today. I hope you  enjoyed and hope to see you next time

Bye