Treynor ratio
What is Treynor ratio?
The Treynor ratio measures return above the risk-free rate per unit of systematic market risk, using beta as the risk denominator.
Why the Treynor ratio matters
The measure asks how much excess return a portfolio generated for each unit of benchmark sensitivity. It is most meaningful when the evaluated portfolio is already well diversified, so unsystematic risk is not the central concern. It differs from the Sharpe ratio, which divides excess return by total volatility rather than beta.
How it is calculated
Subtract the risk-free rate from portfolio return and divide by portfolio beta to a specified benchmark. Returns, risk-free rate, and beta should cover compatible periods and frequencies. Beta is commonly estimated by regression, making the ratio dependent on the chosen benchmark, data window, return frequency, and treatment of changing exposures.
Example
A portfolio earns 10%, the risk-free rate is 3%, and beta is 0.8. Its simplified Treynor ratio is 8.75% of excess return per unit of beta. A second portfolio with the same return and beta of 1.2 has a lower ratio, but may carry different specific, tail, or liquidity risk not captured.
How to interpret it
A higher ratio indicates more historical excess return relative to measured systematic risk when comparisons share a benchmark and methodology. A negative beta or negative excess return makes ranking less intuitive. Investigate alpha, residual volatility, leverage, and factor exposure. The ratio is not suitable for comparing portfolios whose betas refer to different markets.
Limitations
Beta is backward-looking, can change over time, and captures only linear sensitivity to the selected benchmark. A concentrated portfolio may show an attractive Treynor ratio while carrying large specific risk. Options and nonlinear strategies are poorly summarized by one beta. The assumed risk-free asset and annualization method also affect the result.
Practical checklist
Choose a mandate-consistent total-return benchmark and risk-free series, align frequencies, and test beta stability across windows and market regimes. Report regression fit and residual risk. Compare Treynor with Sharpe, alpha, information ratio, drawdown, and factor analysis. Do not use the measure as the sole ranking tool, especially for concentrated, illiquid, or nonlinear portfolios with unstable exposures.
Also known as: reward-to-volatility ratio