a. Fama’s return decomposition has two main components –i)Risk and ii) Selectivity. Risk is further sub-divided...

a. Fama’s return decomposition has two main components –i)Risk and ii) Selectivity. Risk is further sub-divided into Investor’s Risk and Manager’s Risk. Selectivity is also sub-divided into Diversification and Net Selectivity. Explain in detail each element and what role do they play in decomposing portfolio performance.

b. The following market and portfolio performance and risk characteristics are given below. Based on the information provided, calculate all four components of portfolio performance.

Risk-free rate =2.5%

Market return= 12%

Market standard deviation = 0.14

Portfolio return = 14%

Portfolio target beta = 1.1

Portfolio actual beta = 1.2

Portfolio standard deviation = 0.18

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