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Information Ratio

In short

Active return per unit of active risk — measures consistency of alpha

If a manager beats the market by 2% per year on average, but the outperformance swings wildly (+10%, -6%, +2%...), the information ratio is low. Higher IR means consistent, reliable outperformance.

Information ratio divides active return (portfolio minus benchmark) by tracking error (standard deviation of active return). It measures the consistency and efficiency of active management. An IR above 0.5 is considered good; above 1.0 is exceptional.

Formula

IR = (Rp - Rb) ÷ Tracking Error

Thresholds

<0
Underperforming benchmark consistently
0-0.5
Below average
0.5-1
Good — consistent alpha
>1
Exceptional

Related concepts

  • Alpha — Alpha is the extra return a fund earns above what you'd expect given its risk. If the market returns 10% and your fund returns 13% with the same risk, alpha is 3%. Positive alpha = the manager adds value.
  • Tracking Error — If your portfolio closely mirrors the index, tracking error is low. If you make big independent bets, it's high. Index funds have near-zero tracking error. Active funds that differ from the benchmark have high tracking error.
  • Sharpe Ratio — Sharpe ratio measures how much return you get for every unit of risk you take. A Sharpe of 1.0 means for every 1% of risk, you earn 1% return above the risk-free rate. Higher is better.
  • R-Squared (R²) — R-squared tells you how much your portfolio moves in sync with the overall market. An R² of 0.95 means 95% of your portfolio's ups and downs are explained by the market. A low R² means your returns come from other factors — which can be good (alpha) or risky (concentrated bets).