The standard measure of a portfolio's performance is irs rate of return, yet this can be misleading because it fails to account for a portfolio's risk. The authors propose a measure of risk-adjusted performance, RAP, which is rooted in the modern theory of finance but: yields easily understandable results expressed in basis points RAP uses the market price of risk - or trade-off between risk and return - to scale all portfolios to the level of risk found in the benchmark portfolio. The portfolio that. yields he best RAP is shown to have the property of being "best" for any level of risk. An investor therefore attain optimal performance by making separate decisions, first On which portfolio to hold, and second on how much risk to bear: The portfolio to hold is the "best" portfolio. Risk can then be tailored to individual preferences using leverage.
