All investment vehicles come with a certain amount of risk attached. The Sharpe ratio is one measure to assess risk-adjusted returns.
For realized returns, the Sharpe ratio assesses the average return of a risk-free asset or security—such as US Treasuries of a certain maturity—over total risk, as represented by standard deviation. The higher the Sharpe ratio, the higher the risk-adjusted returns and vice versa.
Standard deviation is widely used to assess the risks associated with an investment. Simply put, it measures the deviation of a series of returns from its average. The wider the deviation, the higher the risk and vice versa.
In a one-year period, as of July 15, 2015, the Sharpe ratio turned out to be negative for all four Europe-focused funds in our study. The Vanguard European Stock Index Investor Shares (VEURX) fund had the worst Sharpe ratio of the group with a reading of -0.6.
Over a three-year period, the Fidelity Advisor Europe Fund (FHJUX) turned out to be the best performer with a Sharpe ratio of 2.3. This fund gives you exposure to large European companies including HSBC Holdings (HSBC), Standard Chartered Plc (STAN.L), Bayer AG (BAYN.F), and Roche Holding (ROG). Together, these companies form 10% of its portfolio.
Meanwhile, the Vanguard European Stock Index Investor Shares (VEURX) fared the worst with a reading of 1.0. The T. Rowe Price European Stock Fund (PRESX) had a Sharpe ratio of 1.4, and that of the Putnam Europe Equity Fund Class A (PEUGX) stood at 1.3.
Over a longer period of five years, results were pretty much the same as for the three-year period. FHJUX continued to dominate its peers with a Sharpe ratio of 2.3. VEURX fared the worst with a reading of 0.6. There was a marginal difference in the Sharpe ratios of PRESX and PEUGX. PRESX had a Sharpe ratio of 0.84, while PEUGX had a reading of 0.77 over the period.
Clearly, FHJUX stands out as the winner as far as risk-adjusted performance is concerned.
In our next part, we’ll turn to the portfolio composition of our four funds.