Performance Evaluation of a Diversified Equity Portfolio

As an investment manager for a multi-family office, you have been tasked with evaluating the performance of a diversified equity portfolio that primarily invests in U.S. large-cap stocks. The portfolio has a benchmark of the S&P 500 Index. Over the last year, the portfolio returned 12%, while the S&P 500 returned 10%.

Your clients are keen to understand whether the portfolio manager has added value relative to the benchmark. The portfolio has a tracking error of 3% and a beta of 1.1. Discuss how to analyze the performance of the portfolio in comparison to the benchmark, specifically addressing the following points:

• Assess whether the portfolio outperformed the benchmark on a risk-adjusted basis.
• Consider the impact of the tracking error and beta on performance evaluation.
• Identify any potential limitations of using the S&P 500 as a benchmark for this portfolio.

Your response should include calculations where relevant and should articulate the implications of your findings for the portfolio manager’s evaluation.