medium · Quantitative Finance
A portfolio manager is evaluating two assets. Asset A has an expected return of 12% and volatility of 20%. Asset B has an expected return of 7% and volatility of 10%.
If the risk-free rate is 2%, which asset provides the superior risk-adjusted return according to the Sharpe ratio?
- Asset A, because it offers a significantly higher raw expected return.
- Asset B, because its volatility is half that of Asset A.
- Asset A and Asset B are identical on a risk-adjusted basis.
- Asset A, because its 'volatility drag' ((1)/(2)σ^2) is higher.
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