Tracking error formula in 1.b.5

Discussion in 'P1.T1. Foundations of Risk (20%)' started by Gary2584, Aug 10, 2012.

  1. Gary2584

    Gary2584 New Member

    Hi David,

    In the practice bag spreadsheet for the tracking error calculation, i am confused on the logic behind the formula used for calculation. TE = Voltality(R(portfolio) - R(benchmark portfolio)) but am not able to correlate the above mentioned formula to the one used in the spreadsheet.

    Please advise.

  2. David Harper CFA FRM CIPM

    David Harper CFA FRM CIPM David Harper CFA FRM (test)

    Hi Gary,

    can i ask you to leave open (not post in) David's Notebook? I am moving this to Foundations

    this is the only way to get an ex ante Tracking error: as the variance(A - B) = variance(A) + variance (B) - 2*covariance, the standardDeviation(P - M) = SQRT[Variance(P - M)] = sqrt[volatility(P)^2 + volatility(M)^2 - 2*vol(P)*vol(M)*correlation(P,M)]; i.e., elegant application of variance property

    Now that you ask me about this, I noticed that I need to revise this XLS to make a note that this TE is an ex ante tracking error based on active return/active risk rather than residual return/residual risk.

    Thanks, David
  3. Gary2584

    Gary2584 New Member

    Hi David,
    Thanks for letting me know, as i was kinda confused where to put my query relating to the Focus review.

    Gary :)
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