Standard deviation measures volatility in terms of the average difference between individual data points and their mean. It’s expressed as the square root of the variance. The degree and frequency with which asset prices move up or down determines their volatility, which is the accepted proxy for investment risk.
The Sharpe ratio, devised by American economist William Sharpe, is a gauge of risk-adjusted returns. The higher the ratio, the higher the return in relation to the risk taken to achieve it. Put more simply, a high ratio signifies a better investment (all other things being equal, of course).
Drawdown is the financial analysis term for a decline in the price or value of an individual asset, index, or portfolio. In our table, the maximum drawdown is the biggest decline recorded for an index in any one of the 40 quarters (10 years) for which the data were taken. The measurement is closely tied to the Sharpe ratio because it shows the greatest level of historical risk, or volatility, experienced by the subject index.
Armed with this understanding, what is the table actually telling us?
1. Return analysis
Whether in terms of cumulative or annualized rates of returns, it’s obvious that the inclusion of private debt, equity, and real estate is transformative. It more than doubles the results.
10-year annualized rate of return for examined portfolios (in %)
What is especially interesting is that the transformation is much more marked for Switzerland than for either China or the US. Indeed, the Swiss return, including private markets, is 4.1x bigger than one limited with indices measuring publicly traded securities only, while for China and the US, the increase totaled 2.55x and 2.22x, respectively.
At the same time, however, the Swiss strategy enhanced with the private market barely separated from the other two, being 12.04% annualized compared with 12.78% and 12.67%, respectively, for China and the US.
2. Risk and maximum drawdown analysis
On the basis that individual investors tend to be more averse to investment losses than their institutional counterparts, even temporary ones, we have taken the maximum drawdown as the point of focus for that aversion.
Maximum drawdowns for quarter returns for examined portfolios (in %)
Here, then, is another transformation as a result of including private markets. And, again, it is Switzerland that has seen the greatest benefit. Taken with the previous chart, it means that investing in the Swiss public market enhanced with the private market opportunities over the past 10 years has produced a return that almost matches those for the US and China, but with a lower maximum loss (or drawdown) of 6.91% against 8.02% and 7.68%, respectively.
Standard deviation, meanwhile, tracks not just the losses that have occurred, but the upside price variations also. As a risk measurement, therefore, it’s more holistic than drawdowns alone. The table shows that, although the inclusion of private markets increases the absolute level of deviation (or risk), it narrows the difference between Switzerland (0.06) and the other two markets to near-insignificance (0.07 for China and 0.06 for the US).
That is a significantly better result than was seen by the comparison across more-or-less similar annualized returns, suggesting our markets deliver world-class portfolio performance for noticeably less risk. Do the Sharpe ratios bear that out?
3. Sharpe ratio analysis
Sharpe ratios for examined portfolios
Not only do the ratios confirm the conclusions drawn from our analysis of the previous two charts, but they enhance and expand the results substantially. Again, the inclusion of private markets transforms the “Swiss advantage”, boosting its Sharpe ratio more than fourfold, from just 0.36 to a compelling 1.49, far ahead of China (0.86) and the US (1.11).
In other words, for every single unit of risk, investment in a combination of Swiss private and public markets has produced a return that’s very nearly one and a half times that degree of risk over the past decade.