Excess Return

Excess Return is the return of an investment, portfolio or strategy relative to the return of benchmark index.

Excess Return

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The performance of an investment must be compared with an appropriate benchmark. The benchmark is usually the market index to which securities traded belong. If you trade large-cap stocks then S&P 500 must be used. For small cap stocks use Russell 2000. If platinum futures are traded, then the market index should be platinum spot price rather than S&P 500.

If a long-only strategy returns 10%, it is not too fantastic because investing in an index fund will generate as much if not better return on average.

However, if the strategy is long-short dollar-neutral strategy (portfolio holds long and short positions with equal capital), then 10% is quiet good, because the benchmark is not the market index (S&P 500) but a risk-free asset such as yield of 3-month US T-bill.

Other most important investment performance measurements include Sharpe Ratio, Treynor Ratio, Maximum Drawdown.