The current issue and full text archive of this journal is available at

www.emeraldinsight.com/0307-4358.htm

Risk-adjusted performance of Performance of

international
international mutual funds mutual funds
Onur Arugaslan, Ed Edwards, and Ajay Samant
Haworth College of Business, Western Michigan University, Kalamazoo,
Michigan, USA 5
Abstract
Purpose – This paper aims to evaluate the risk-adjusted performance of US-based international
equity funds using objective statistical measures grounded in modern portfolio theory, and to present
the results in a manner which is easily understood by the average investor.
Design/methodology/approach – This study evaluates the performance of 50 large US-based
international equity funds using risk-adjusted returns during 1994-2003. In particular, a relatively
new risk-adjusted performance measure (M squared), first proposed by Franco Modigliani and Leah
Modigliani in 1997, is used to evaluate these equity funds.
Findings – The empirical results show that the funds with the highest average returns may lose
their attractiveness to investors once the degree of risk embedded in the fund has been factored into
the analysis. Conversely, some funds, whose average (unadjusted) returns do not stand out, may look
very attractive once their low risk is factored into their performance.
Research limitations/implications – It may be worthwhile to examine the effects of factors such
as fund manager compensation, service fees, corporate governance metrics, and overweighting in
risky countries/regions on the performance of international equity funds.
Practical implications – The evidence presented in this study can be used as input in decision
making by investors who are exploring the possibility of participating in the global stock market via
international equity funds.
Originality/value – This paper is one of the first studies that apply the new M squared measure to
evaluate the performance of international equity funds using both domestic and international
benchmark indices. Various other performance metrics are also utilized including Sharpe and
Treynor measures, and Jensen’s Alpha.
Keywords Performance measures, Unit trusts, Risk assessment, Diversification
Paper type Research paper

Introduction
Given the desire of investors to seek out diversification in their asset portfolios and
considering the modest performance of the US equity markets since 2000, it is no
surprise that many investors have sought to diversify their holdings further by
investing in international equity funds. The growing US federal budget and trade
balance deficits along with a weak dollar, high oil prices, concerns about inflation, and
rising interest rates, give investors more reasons to shift some of their investments to
non-US markets. Even though stock markets across the globe may face similar
economic downturns, it is still possible to observe some stock markets, whether
emerging or developed, to do better than others. In order to make informed decisions on
which international equity funds to hold, investors would appreciate documentation on
their risk-adjusted performance. This study evaluates the performance of 50 large US-
based international equity funds using risk-adjusted returns during 1994-2003. In
particular, a relatively new risk-adjusted performance measure, first proposed by
Franco Modigliani and Leah Modigliani in 1997, is used to evaluate these equity funds. Managerial Finance
Vol. 34 No. 1, 2008
This paper builds on prior work in Samant and Edwards (2000) and Edwards and pp. 5-22
Samant (2003). Samant and Edwards (2000) study the performance of international # Emerald Group Publishing Limited
0307-4358
mutual funds during the period 1990-1999. This study focuses on a different time DOI 10.1108/03074350810838190
MF period and also utilizes multiple benchmark indices to proxy the market portfolio.
Edwards and Samant (2003), on the other hand, investigate the performance of socially
34,1 responsible mutual funds in the US during 1991-2000.
Some caveats of the study need to be mentioned, up front. First, all studies on the
long-term performance of mutual funds are affected by ‘‘survivor bias’’, i.e. only those
funds that have survived during the period under study, are included in the data.
Second, past results cannot predict future performance. Finally, the results of this
6 study are not intended to, and should not, be interpreted as investment advice.
The rest of the paper is organized as follows. The next section summarizes the
related literature on mutual fund performance. The following two sections describe the
data and present the methodology. Next, the results of the five-year and ten-year
performance analyses are reported. The final two sections discuss the results and
conclude the paper.

Review of the literature

Evaluation of the performance of investment portfolios was pioneered by Treynor
(1965), Sharpe (1966), and Jensen (1968). The statistical techniques developed by them
are the most commonly used portfolio performance measures even now. Treynor (1965)
suggested a way of evaluating the performance of a portfolio by adjusting the mean
excess return (i.e. mean return less the risk-free rate of return in the economy) for the
degree of market (systematic) risk and thus calculating the performance of the
portfolio. Systematic risk could be estimated by regressing the mutual fund’s returns
on the returns to a market benchmark index. Sharpe (1966) computed mean excess
return and adjusted for the degree of total risk involved in the portfolio. Total risk was
estimated by the standard deviation of returns. Jensen (1968) devised a method of
determining whether the deviation of portfolio returns from market returns was
statistically significant, and, therefore, determining whether the excess return could be
attributed to superior management, or purely to chance.
The techniques used in these three pioneering studies were further refined by Kon
and Jen (1979), Henrikkson and Merton (1981), and Chang and Lewellen (1984). Kon
and Jen (1979) developed a methodology to evaluate timing, selectivity, and market
efficiency of mutual funds. Henrikkson and Merton (1981) developed statistical
procedures to evaluate forecasting skills of managers. The study by Chang and
Lewellen (1984) focused on the issue of market timing and the investment performance
of mutual funds. Recent research has utilized non-market factors like size, book-
to-market, momentum, number of securities, and turnover to assess mutual fund
performance (Carhart, 1997; Daniel et al., 1997; Kothari and Warner, 2001).
The performance of international mutual funds has been studied by Cumby and
Glen (1990), Eun et al. (1991), and Droms and Walker (1994). In a recent study, Redman
et al. (2000) compare the performance of various portfolios of international mutual
funds with domestic benchmarks. Bailey et al. (2005), on the other hand, study the
impact of political risk on the risk-adjusted returns of international mutual funds.
In 1997, Nobel Laureate Franco Modigliani and Leah Modigliani, his granddaughter,
did some pioneering work in the area of financial reward and risk. They proposed a new
risk-adjusted performance measure (hereafter referred to as, M squared), which is
intuitively quite appealing to investors. The idea that underlies their methodology is to
adjust the returns of a mutual fund to the level of risk in an unmanaged stock market
index and then measure the returns on the risk-matched fund. This method has two
distinct advantages over earlier techniques. First, it reports the risk-adjusted
performance of a mutual fund as a per centage, which is easily understood by a lay Performance of
investor. Second, the method permits investors to calculate the degree of leverage that is
needed to attain the highest return possible for a given level of risk. On the one hand,
international
aggressive investors can use this information to raise their expected returns by levering mutual funds
their portfolio (borrowing money and investing in the right mutual fund). On the other
hand, risk-averse investors can use this information to reduce their expected risk by
unlevering their portfolio (selling off part of their holding in a mutual fund and investing
the proceeds in a risk-free security, such as a Treasury bill). 7
Practitioner literature (for example, Morningstar, 2004) often contains reports on the
mean returns to international mutual funds. However, the only measure of risk that is
usually reported is the standard deviation of fund returns. Risk-adjusted returns are
almost never reported and the reader is given very little guidance as to what criteria to
employ while choosing a mutual fund from among a menu of several funds with
attractive returns and widely different levels of risk.
The objective of this study is to narrow the gap between practitioner-oriented
literature and academic literature on the subject of evaluating the risk-adjusted returns
on international mutual funds. While the former is not well grounded in terms of
investment management theory, the latter is often unintelligible to the average investor,
as it uses technical jargon and abstract mathematical principles. The contribution of
this study is that it evaluates, in a rigorous manner, the performance of international
mutual funds using performance measures that are easily understood by the average
investor, such as simple per centages that report the risk-adjusted returns that accrued
to these mutual funds. As mentioned before, the study makes extensive use of the M
squared measure and is one of the first studies to apply this measure to evaluate the
performance of international mutual funds.

Data
Seventy-two US-based international mutual funds are obtained using the Morningstar
(2004) edition. These funds usually have more than 50 per cent of their assets invested
outside US equity markets. Quarterly returns for these funds for the five-year period
1999-2003 are gathered from the same edition of Morningstar, for five-year
performance analysis. Of these 72 funds, 60 have complete returns data for 20 quarters.
One fund is eliminated since its Morningstar category is specialty-precious metals. The
largest 50 of the remaining funds are selected on the basis of total assets as of
31 December, 2003. Quarterly returns for the five-year period 1994-1998 are gathered
from Morningstar (1999) edition, for ten-year performance analysis. Of the 50 funds
studied in the five-year analysis, 22 funds were in existence in 1994. The quarterly
return data for the 90-day US Treasury bills, the Morgan Stanley Capital International
(MSCI) Europe, Australasia, and Far East (EAFE) index, and the Standard and Poor’s
500 (S&P500) index are collected from the 2004 and previous editions of the
Morningstar Funds 500.

Methodology
This study estimates risk-return profiles for international mutual funds that have been
around for the five-year period 1999-2003 and also for those that have been around for
the ten-year period 1994-2003. Quarterly returns are used for computing measures of
return and risk. Thus, each statistic reported for the five-year period 1999-2003 is
based on at least 20 distinct data points and each statistic reported for the ten-year
period 1994-2003 is based on at least 40 distinct data points.
MF Mean returns are calculated by averaging the quarterly returns over the relevant
34,1 time period. Mean excess return is calculated by subtracting the risk-free rate of return
from the mean return. The proxy used in this study for the risk-free rate of return is the
average yield on 90-day US Treasury bills. This is in accordance with the standard
practice in performance evaluation of mutual funds. Total risk is measured by the
standard deviation of returns. Systematic (market) risk is estimated by beta, which is
8 calculated as the slope coefficient in the regression of the fund rate of return on the
market rate of return. In order to make the results of this study easily comparable to
results published in practitioner literature, the market benchmarks used here are the
MSCI EAFE index and the S&P500 index.
The Sharpe performance measure is calculated for each fund by dividing the mean
excess return by the total risk of the fund, as estimated by its standard deviation of
returns:

Ri
Rf
Si ¼
i

where Ri, mean return on fund i; Rf, mean risk-free rate of return; i, standard deviation
of returns for fund i.
The Treynor performance measure is calculated by dividing the mean excess return
of each fund by its beta:

Ri
Rf
Ti ¼
i

where  i is obtained from the market model:

Rit ¼ i þ i Rmt þ eit

where Rmt, return on the market index during period t ; eit, stochastic error term.
Jensen’s Alpha is calculated by subtracting the expected return of each fund from its
actual mean return:

i ¼ Ri
ðRf þ i ðRm
Rf ÞÞ

The expected return for each fund is calculated using the Capital Asset Pricing Model.
Jensen’s Alphas are then tested for statistical significance.
The M squared measure is computed by multiplying the Sharpe measure by the
benchmark standard deviation and then adding the risk-free rate of return:

Ri
Rf
M 2i ¼  m þ Rf
i

Finally, the leverage factor is calculated by dividing the market standard deviation by
the fund standard deviation:
m
Li ¼
i
A leverage factor greater than one implies that the standard deviation of the fund is Performance of
less than the standard deviation of the market index, and that the investor should
consider levering the fund by borrowing money (if possible, at the risk-free rate of
international
return) and investing in that particular fund. While this would tend to increase the risk mutual funds
of the investment somewhat, there would be a greater than proportional increase in
returns.
A leverage factor less than one implies that the risk of the fund is greater than the
risk of the market index, and that the investor should consider unlevering the fund by
9
selling off part of the holding in the fund and investing the proceeds in a risk-free
security, such as a Treasury bill. In this way, while the returns on the investment
reduce somewhat, there would be a greater than proportional reduction in the risk.

Results of the study

Five-year performance
The 50 largest international equity funds with full quarterly return data are identified
in Table I with benchmark EAFE index and in Table II with benchmark S&P500 index
along with their risk, return, and performance statistics. The funds are ranked in
descending order according to their total assets as of 31 December, 2003. The largest of
these funds is American Funds EuroPacific Growth with total assets of approximately
$33.8 billion. The fund with the highest mean return is Oppenheimer Developing
Markets with an average quarterly return of 6.2 per cent. In comparison, the quarterly
mean return of the benchmark EAFE index is 0.4 per cent and the quarterly mean
return of the benchmark S&P500 index is 0.3 per cent. The fund with the highest total
risk (measured by the standard deviation of returns) is T. Rowe Price International
Discovery with a quarterly standard deviation of 19.0 per cent. Again, in comparison,
the standard deviation of the benchmark EAFE index is 10.5 per cent and the standard
deviation of the benchmark S&P500 index is 9.9 per cent. Further, Tables I and II
report the numerical values of the Sharpe measures, which are used to rank the funds
in Tables III and IV. The highest Sharpe measure obtained (0.54) is by First Eagle
Global. In comparison, the Sharpe measure of the benchmark EAFE index is
0.04 and
the Sharpe measure of the benchmark S&P500 index is
0.05.
Table I also reports the values of fund Betas, M squared measures, Jensen’s Alphas
(and their t-statistics), and Treynor measures, all of which are computed using the
benchmark EAFE index. The fund with the highest systematic risk (Beta ¼ 1.47) is
Oppenheimer Global Opportunities. In comparison, the Beta of the benchmark EAFE
index is, by definition, exactly 1.0. The fund with the highest M squared measure (6.51)
is First Eagle Global. In comparison, the benchmark EAFE index had an M squared
measure of 0.44. The fund with the highest Alpha measure is Oppenheimer Developing
Markets with Alpha equal to 5.93. The Alpha measure of the benchmark EAFE index
is, by definition, zero. None of the fund Alphas is significantly different from zero.
Finally, the fund with the highest Treynor measure (6.63) is First Eagle Global. In
comparison, the Treynor measure for the EAFE index is
0.43.
Table II reports the values of fund Betas, M squared measures, Jensen’s Alphas (and
their t-statistics), and Treynor measures, all of which are computed using the S&P500
index. The fund with the highest systematic risk (Beta ¼ 1.57) is Oppenheimer Global
Opportunities. In comparison, the Beta of the benchmark S&P500 index is, by
definition, exactly 1.0. The fund with the highest M squared measure (6.19) is First
Eagle Global. In comparison, the benchmark S&P500 index had an M squared measure
of 0.33. The fund with the highest Alpha measure is Oppenheimer Developing Markets
MF EAFE
34,1 Stock mutual funds
Assets AVG STD Sharpe M Alpha
($ million) (%) (%) measure Beta squared Alpha t-stat* Treynor

1. Amer Funds EuroPac A 33,798 1.9 11.6 0.09 1.05 1.84 1.53 0.43 1.03
2. Amer Funds New Persp A 30,630 2.2 11.0 0.12 1.00 2.09 1.72 0.50 1.29
3. Amer Funds CplncBldr A 23,525 1.8 4.7 0.20 0.28 2.97 1.07 0.53 3.32
10 4. Templeton Growth A 17,038 2.8 9.1 0.21 0.77 3.06 2.25 0.76 2.50
5. Amer Funds CapWrldGI A 16,744 2.7 8.8 0.21 0.80 3.04 2.17 0.74 2.30
6. Templeton Foreign A 14,028 2.4 9.7 0.16 0.82 2.53 1.88 0.62 1.87
7. Fidelity Diversified Int 13,559 2.7 11.1 0.17 1.02 2.63 2.31 0.68 1.84
8. Putnam Intl Equity A 12,451 1.8 12.6 0.08 1.12 1.67 1.45 0.38 0.86
9. Janus Worldwide 10,965 0.8 14.8 0.00 1.20 0.84 0.48 0.10
0.03
10. Artisan International 9,322 2.9 16.1 0.13 1.33 2.20 2.62 0.58 1.54
11. Oppenheimer Glob A 9,113 3.3 13.8 0.18 1.18 2.70 2.92 0.74 2.05
12. Vanguard Intl Gr 7,639 0.8 11.1
0.01 1.03 0.77 0.34 0.10
0.10
13. Vanguard Eur Stk Idx 7,484 0.5 11.5
0.03 1.07 0.52 0.08 0.01
0.36
14. Templeton World A 7,456 1.9 9.9 0.10 0.88 1.94 1.39 0.45 1.16
15. Merrill Global Alloc A 6,728 3.2 7.6 0.30 0.60 4.04 2.56 0.94 3.80
16. Morgan Stan Ins IntlEq A 6,369 2.3 8.4 0.17 0.71 2.64 1.72 0.61 1.99
17. Harbor Intl Instl 6,284 2.1 10.6 0.12 0.97 2.09 1.65 0.50 1.27
18. First Eagle Overseas A 4,935 4.6 7.1 0.53 0.59 6.38 4.01 1.48 6.40
19. First Eagle Glbl A 4,860 4.2 6.2 0.54 0.50 6.51 3.53 1.38 6.63
20. Vanguard Total Intl Stk 4,786 0.8 10.7
0.01 1.02 0.76 0.33 0.10
0.10
21. T. Rowe Price Intl Stk 4,597 0.3 11.8
0.05 1.11 0.38
0.07
0.03
0.49
22. Mutual Discovery A 4,466 2.9 7.2 0.29 0.57 3.87 2.31 0.88 3.64
23. Tweedy, Browne Glob Val 4,189 2.3 8.2 0.17 0.59 2.67 1.68 0.62 2.40
24. Bernstein Tx-Mgd Intl 4,108 1.8 10.1 0.09 0.90 1.83 1.31 0.42 1.03
25. Julius Baer Intl Eqty A 4,100 3.6 14.3 0.19 1.14 2.87 3.22 0.80 2.39
26. Fidelity Overseas 3,961 1.1 12.3 0.02 1.15 1.07 0.74 0.19 0.21
27. Oakmark International I 3,691 4.0 13.0 0.24 0.99 3.41 3.59 0.96 3.18
28. AmCent Intl Growth Inv 3,195 1.1 14.5 0.01 1.19 1.01 0.71 0.16 0.16
29. Janus Overseas 2,724 2.4 18.5 0.08 1.46 1.72 2.14 0.41 1.04
30. Oppenheimer Glob Oppor A 2,457 4.1 17.2 0.19 1.47 2.85 3.88 0.82 2.21
31. Templeton Devel Mkts A 2,316 3.0 14.0 0.15 1.07 2.46 2.59 0.65 1.99
32. William Blair Intl Gr N 1,896 4.1 13.9 0.23 1.18 3.26 3.69 0.93 2.71
33. Vanguard Em Mkt Idx 1,846 3.6 15.1 0.18 1.24 2.77 3.28 0.77 2.22
34. Vanguard Intl Value 1,704 1.4 10.8 0.05 0.95 1.43 0.99 0.30 0.61
35. Columbia Acorn Intl Z 1,680 2.7 15.3 0.12 1.29 2.16 2.44 0.56 1.47
36. Longleaf Partners Intl 1,488 4.2 10.5 0.31 0.62 4.14 3.55 1.12 5.33
37. AmCent Intl Disc Inv 1,233 3.8 16.7 0.18 1.25 2.71 3.47 0.76 2.34
38. Mutual European A 1,120 3.7 9.4 0.30 0.77 4.05 3.19 1.05 3.74
39. Oppenheimer Develop MktA 1,092 6.2 16.3 0.33 1.38 4.28 5.93 1.33 3.85
40. Fidelity Worldwide 957 1.7 10.7 0.08 0.96 1.71 1.28 0.39 0.90
41. Dreyfus Prem Emerg A 899 5.1 14.4 0.29 1.09 3.95 4.69 1.17 3.88
42. Vanguard Global Equity 744 3.0 9.4 0.22 0.82 3.20 2.45 0.80 2.58
43. Masters’ Select Intl 732 3.4 14.6 0.17 1.27 2.70 3.10 0.74 2.02
44. T. Rowe Price New Asia 662 4.2 17.8 0.19 1.40 2.83 3.95 0.82 2.38
45. Oakmark Intl Small Cap I 598 5.0 12.9 0.32 0.94 4.22 4.54 1.23 4.38
46. UMB Scout WorldWide 593 1.3 9.0 0.05 0.84 1.39 0.81 0.29 0.54
47. Vanguard Intl Explorer 500 4.4 14.9 0.24 1.20 3.36 4.07 0.98 2.96
48. MFS Global Total Retrn A 491 1.2 4.8 0.07 0.43 1.61 0.53 0.30 0.80
49. T. Rowe Price Intl Disc 483 5.7 19.0 0.25 1.46 3.51 5.42 1.08 3.29
50. Fidelity Pacific Basin 430 2.9 14.9 0.14 1.14 2.29 2.52 0.60 1.78
Table I. Benchmarks
Five-year performance MSCI EAFE 0.4 10.5
0.04 1.00 0.44 0.00 0.00
0.43
on a quarterly basis US 90-day Treasury/bill 0.9 0.5 0.00
0.01 0.86
0.01 0.18 0.00
using the MSCI index as
benchmark (1999-2003) Note: *None of the t-statistics is significant at the 5 per cent level
 S&P500 Performance of
Stock mutual funds
Assets AVG STD Sharpe M- Alpha
($ million) (%) (%) measure Beta squared Alpha t-stat* Treynor
international
mutual funds
1. Amer Funds EuroPac A 33,798 1.9 11.6 0.09 1.03 1.78 1.63 0.47 1.05
2. Amer Funds New Persp A 30,630 2.2 11.0 0.12 1.06 2.02 1.85 0.55 1.22
3. Amer Funds CplncBldr A 23,525 1.8 4.7 0.20 0.32 2.85 1.11 0.60 2.99
4. Templeton Growth A 17,038 2.8 9.1 0.21 0.80 2.94 2.35 0.81 2.40 11
5. Amer Funds CapWrldGI A 16,744 2.7 8.8 0.21 0.83 2.91 2.27 0.80 2.20
6. Templeton Foreign A 14,028 2.4 9.7 0.16 0.82 2.43 1.97 0.67 1.87
7. Fidelity Diversified Int 13,559 2.7 11.1 0.17 0.96 2.54 2.39 0.72 1.95
8. Putnam Intl Equity A 12,451 1.8 12.6 0.08 1.09 1.62 1.55 0.42 0.88
9. Janus Worldwide 10,965 0.8 14.8 0.00 1.32 0.84 0.67 0.12
0.03
10. Artisan International 9,322 2.9 16.1 0.13 1.29 2.12 2.73 0.61 1.59
11. Oppenheimer Glob A 9,113 3.3 13.8 0.18 1.27 2.60 3.09 0.78 1.91
12. Vanguard Intl Gr 7,639 0.8 11.1
0.01 1.00 0.77 0.43 0.13
0.10
13. Vanguard Eur Stk Idx 7,484 0.5 11.5
0.03 1.00 0.54 0.15 0.04
0.38
14. Templeton World A 7,456 1.9 9.9 0.10 0.93 1.88 1.52 0.49 1.09
15. Merrill Global Alloc A 6,728 3.2 7.6 0.30 0.69 3.86 2.67 1.02 3.33
16. Morgan Stan Ins IntlEq A 6,369 2.3 8.4 0.17 0.60 2.54 1.74 0.67 2.34
17. Harbor Intl Instl 6,284 2.1 10.6 0.12 0.93 2.02 1.73 0.55 1.32
18. First Eagle Overseas A 4,935 4.6 7.1 0.53 0.58 6.08 4.07 1.57 6.46
19. First Eagle Glbl A 4,860 4.2 6.2 0.54 0.51 6.19 3.59 1.48 6.55
20. Vanguard Total Intl Stk 4,786 0.8 10.7
0.01 0.96 0.77 0.41 0.13
0.11
21. T. Rowe Price Intl Stk 4,597 0.3 11.8
0.05 1.07 0.41 0.03 0.00
0.51
22. Mutual Discovery A 4,466 2.9 7.2 0.29 0.65 3.70 2.41 0.95 3.19
23. Tweedy, Browne Glob Val 4,189 2.3 8.2 0.17 0.69 2.57 1.79 0.68 2.07
24. Bernstein Tx-Mgd Intl 4,108 1.8 10.1 0.09 0.86 1.77 1.39 0.46 1.08
25. Julius Baer Intl Eqty A 4,100 3.6 14.3 0.19 1.06 2.76 3.30 0.84 2.58
26. Fidelity Overseas 3,961 1.1 12.3 0.02 1.09 1.06 0.83 0.22 0.22
27. Oakmark International I 3,691 4.0 13.0 0.24 1.11 3.27 3.76 1.01 2.85
28. AmCent Intl Growth Inv 3,195 1.1 14.5 0.01 1.13 1.00 0.80 0.19 0.17
29. Janus Overseas 2,724 2.4 18.5 0.08 1.51 1.68 2.32 0.44 1.00
30. Oppenheimer Glob Oppor A 2,457 4.1 17.2 0.19 1.57 2.74 4.09 0.85 2.07
31. Templeton Devel Mkts A 2,316 3.0 14.0 0.15 1.20 2.37 2.77 0.70 1.77
32. William Blair Intl Gr N 1,896 4.1 13.9 0.23 1.18 3.13 3.82 0.97 2.71
33. Vanguard Em Mkt Idx 1,846 3.6 15.1 0.18 1.40 2.67 3.49 0.81 1.96
34. Vanguard Intl Value 1,704 1.4 10.8 0.05 0.89 1.39 1.05 0.34 0.65
35. Columbia Acorn Intl Z 1,680 2.7 15.3 0.12 1.27 2.09 2.56 0.59 1.49
36. Longleaf Partners Intl 1,488 4.2 10.5 0.31 0.67 3.95 3.65 1.18 4.89
37. AmCent Intl Disc Inv 1,233 3.8 16.7 0.18 1.32 2.61 3.64 0.80 2.22
38. Mutual European A 1,120 3.7 9.4 0.30 0.78 3.88 3.28 1.11 3.67
39. Oppenheimer Develop MktA 1,092 6.2 16.3 0.33 1.47 4.09 6.12 1.37 3.64
40. Fidelity Worldwide 957 1.7 10.7 0.08 1.03 1.66 1.41 0.43 0.84
41. Dreyfus Prem Emerg A 899 5.1 14.4 0.29 1.25 3.77 4.88 1.22 3.38
42. Vanguard Global Equity 744 3.0 9.4 0.22 0.84 3.07 2.55 0.86 2.50
43. Masters’ Select Intl 732 3.4 14.6 0.17 1.28 2.59 3.24 0.78 2.00
44. T. Rowe Price New Asia 662 4.2 17.8 0.19 1.45 2.72 4.12 0.85 2.30
45. Oakmark Intl Small Cap I 598 5.0 12.9 0.32 0.96 4.04 4.65 1.28 4.30
46. UMB Scout WorldWide 593 1.3 9.0 0.05 0.86 1.36 0.91 0.33 0.53
47. Vanguard Intl Explorer 500 4.4 14.9 0.24 1.21 3.22 4.20 1.02 2.93
48. MFS Global Total Retrn A 491 1.2 4.8 0.07 0.40 1.57 0.56 0.36 0.87
49. T. Rowe Price Intl Disc 483 5.7 19.0 0.25 1.42 3.36 5.55 1.11 3.36
50. Fidelity Pacific Basin 430 2.9 14.9 0.14 1.06 2.21 2.59 0.64 1.92 Table II.
Benchmarks Five-year performance
S&P500 0.3 9.9
0.05 1.00 0.33 0.00 0.00
0.53 on a quarterly basis
US 90-day Treasury bill 0.9 0.5 0.00
0.01 0.86 0.00 0.24 0.00 using the S&P500 index
as benchmark
Note: *None of the t-statistics is significant at the 5% level (1999-2003)
MF Stock mutual funds Sharpe rank (M squared rank) Treynor rank Alpha rank
34,1
First Eagle Glbl A 1 1 12
First Eagle Overseas A 2 2 6
Oppenheimer Develop MktA 3 6 1
Oakmark Intl Small Cap I 4 4 4
Longleaf Partners Intl 5 3 11
12 Mutual European A 6 8 16
Merrill Global Alloc A 7 7 21
Dreyfus Prem Emerg A 8 5 3
Mutual Discovery A 9 9 26
T. Rowe Price Intl Disc 10 11 2
Oakmark International I 11 12 10
Vanguard Intl Explorer 12 13 5
William Blair Intl Gr N 13 14 9
Vanguard Global Equity 14 15 23
Templeton Growth A 15 16 27
Amer Funds CapWrldGI A 16 21 28
Amer Funds CplncBldr A 17 10 40
Julius Baer Intl Eqty A 18 18 15
Oppenheimer Glob Oppor A 19 23 8
T. Rowe Price New Asia 20 19 7
Vanguard Em Mkt Idx 21 22 14
AmCent Intl Disc Inv 22 20 13
Oppenheimer Glob A 23 24 18
Masters’ Select Intl 24 25 17
Tweedy, Browne Glob Val 25 17 33
Morgan Stan Ins IntlEq A 26 26 31
Fidelity Diversified Int 27 29 25
Templeton Foreign A 28 28 30
Templeton Devel Mkts A 29 27 20
Fidelity Pacific Basin 30 30 22
Artisan International 31 31 19
Columbia Acorn Intl Z 32 32 24
Harbor Intl Instl 33 34 34
Amer Funds New Persp A 34 33 32
Templeton World A 35 35 37
Amer Funds EuroPac A 36 38 35
Bernstein Tx-Mgd Intl 37 37 38
Janus Overseas 38 36 29
Fidelity Worldwide 39 39 39
Putnam Intl Equity A 40 40 36
MFS Global Total Retrn A 41 41 45
Vanguard Intl Value 42 42 41
UMB Scout WorldWide 43 43 42
Fidelity Overseas 44 44 43
AmCent Intl Growth Inv 45 45 44
Janus Worldwide 46 46 46
Vanguard Intl Gr 47 47 47
Table III. Vanguard Total Intl Stk 48 48 48
Five-year ranking using Vanguard Eur Stk Idx 49 49 49
the MSCI index as MSCI EAFE 50 50 50
benchmark (1999-2003) T. Rowe Price Intl Stk 51 51 51
Stock mutual funds Sharpe rank (M squared rank) Treynor rank Alpha rank Performance of
international
First Eagle Glbl A 1 1 13 mutual funds
First Eagle Overseas A 2 2 8
Oppenheimer Develop MktA 3 6 1
Oakmark Intl Small Cap I 4 4 4
Longleaf Partners Intl 5 3 11
Mutual European A 6 5 16 13
Merrill Global Alloc A 7 9 21
Dreyfus Prem Emerg A 8 7 3
Mutual Discovery A 9 10 25
T. Rowe Price Intl Disc 10 8 2
Oakmark International I 11 13 10
Vanguard Intl Explorer 12 12 5
William Blair Intl Gr N 13 14 9
Vanguard Global Equity 14 16 24
Templeton Growth A 15 17 27
Amer Funds CapWrldGI A 16 21 29
Amer Funds CplncBldr A 17 11 40
Julius Baer Intl Eqty A 18 15 15
Oppenheimer Glob Oppor A 19 22 7
T. Rowe Price New Asia 20 19 6
Vanguard Em Mkt Idx 21 25 14
AmCent Intl Disc Inv 22 20 12
Oppenheimer Glob A 23 28 18
Masters’ Select Intl 24 24 17
Tweedy, Browne Glob Val 25 23 32
Morgan Stan Ins IntlEq A 26 18 33
Fidelity Diversified Int 27 26 26
Templeton Foreign A 28 29 30
Templeton Devel Mkts A 29 30 19
Fidelity Pacific Basin 30 27 22
Artisan International 31 31 20
Columbia Acorn Intl Z 32 32 23
Harbor Intl Instl 33 33 34
Amer Funds New Persp A 34 34 31
Templeton World A 35 35 37
Amer Funds EuroPac A 36 37 35
Bernstein Tx-Mgd Intl 37 36 39
Janus Overseas 38 38 28
Fidelity Worldwide 39 41 38
Putnam Intl Equity A 40 39 36
MFS Global Total Retrn A 41 40 46
Vanguard Intl Value 42 42 41
UMB Scout WorldWide 43 43 42
Fidelity Overseas 44 44 43
AmCent Intl Growth Inv 45 45 44
Janus Worldwide 46 46 45
Vanguard Intl Gr 47 47 47
Vanguard Total Intl Stk 48 48 48 Table IV.
Vanguard Eur Stk Idx 49 49 49 Five-year ranking using
T. Rowe Price Intl Stk 50 50 50 the S&P500 index as
S&P500 51 51 51 benchmark (1999-2003)
MF with Alpha equal to 6.12. The Alpha measure of the benchmark S&P500 index is, by
definition, zero. None of the fund Alphas is significantly different from zero. Finally, the
34,1 fund with the highest Treynor measure (6.55) is First Eagle Global. In comparison, the
Treynor measure for the S&P500 index is
0.53.
Tables III and IV report the rankings of all the funds. The Sharpe, Treynor, and
Alpha ranks in Table III all indicate that 49 funds had returns (adjusted for risk) that
exceeded the risk-adjusted returns of the EAFE index. The only fund that
14 underperforms the EAFE index is T. Rowe Price International Stock. The Sharpe,
Treynor, and Alpha ranks in Table IV all indicate that all 50 funds had returns
(adjusted for total risk) that exceeded the risk-adjusted returns of the S&P500 index.
For both indices First Eagle Global has the highest Sharpe and Treynor ranks whereas
Oppenheimer Developing Markets has the highest Alpha rank. The ranking on the
basis of the M squared measure is identical to the ranking on the basis of the Sharpe
measure. However, the M squared measure enables us to draw some inferences, which
cannot be drawn from the Sharpe measure (or, as a matter of fact, from any other
measure), and these are detailed at the end of this section.
Table V reports the average returns that accrue to the funds with and without risk-
adjustment. The risk-adjustment is performed by using only the MSCI EAFE index as
the benchmark. The returns are annualized for the convenience of investors. This is
done by compounding the quarterly mean returns over four periods. Oppenheimer
Developing Markets, which ranks first on the basis of mean (unadjusted) returns, falls
back to rank three on the basis of returns adjusted for risk. On the other hand, First
Eagle Global, which ranks eighth on an unadjusted basis, ranks first when the returns
are adjusted for risk. The leverage factor for this fund is 1.70, which implies that an
investor who is comfortable with bearing the same level of risk as in the benchmark
EAFE index, could lever the fund (borrow 70 per cent of his/her down payment, if
possible, at the risk-free rate of interest and invest in the fund) and thereby attain an
annual return level of 28.67 per cent. The example below details how this return can be
obtained.
Consider an investor who would like to earn superior returns on an international
mutual fund and, at the same time, bear only an average level of risk. In this context,
the average level of risk is measured by the standard deviation of the benchmark
EAFE index, which is 10.5 per cent on a quarterly basis. Now consider the following
investment strategy: suppose that the investor has $1,000 to invest. The investor could
borrow an additional $700 and invest a total of $1,700 in First Eagle Global. The end of
quarter gross return on this portfolio will be $1,700  0.042 ¼ $71.40. Suppose that the
borrowed funds were contracted at the quarterly risk-free rate of 0.9 per cent. In that
case, the cost of borrowed funds is $700  0.009 ¼ $6.30. The portfolio return, net of
interest cost, is $71.40
6.30 ¼ $65.10, which is a return of 6.51 per cent on a quarterly
basis or 28.69 per cent (28.67 per cent in Table V due to rounding differences) on an
annual basis. Note that the quarterly risk of the portfolio is 1.70  6.2 ¼ 10.5 per cent,
which is the same as the quarterly standard deviation of the benchmark EAFE index.
This investment strategy, therefore, enables the investor to earn superior returns for an
average level of risk.
It may be noted that the above example assumes that the covariance between the
returns on a risk-free asset and the mutual fund is zero. An investor, who is
comfortable with a higher level of risk, could have attained higher returns by levering
the fund even further. What is interesting is that, no matter what level of risk the
investor is comfortable with, she will be better off levering this particular mutual fund
 Unadjusted Adjusted Performance of
annualized Unadjusted annualized Adjusted Leverage international
Stock mutual funds returns (%) rank returns (%) rank factor
mutual funds
First Eagle Glbl A 17.80 8 28.67 1 1.70
First Eagle Overseas A 19.81 5 28.08 2 1.47
Oppenheimer Develop MktA 27.20 1 18.27 3 0.64
Oakmark Intl Small Cap I 21.54 4 17.99 4 0.81 15
Longleaf Partners Intl 17.68 9 17.60 5 0.99
Mutual European A 15.78 14 17.23 6 1.11
Merrill Global Alloc A 13.26 19 17.17 7 1.38
Dreyfus Prem Emerg A 21.94 3 16.74 8 0.73
Mutual Discovery A 12.25 22 16.40 9 1.45
T. Rowe Price Intl Disc 24.61 2 14.80 10 0.55
Oakmark International I 17.12 12 14.35 11 0.80
Vanguard Intl Explorer 18.87 6 14.11 12 0.70
William Blair Intl Gr N 17.23 11 13.71 13 0.75
Vanguard Global Equity 12.40 21 13.44 14 1.11
Templeton Growth A 11.61 25 12.83 15 1.15
Amer Funds CapWrldGI A 11.21 28 12.70 16 1.19
Amer Funds CplncBldr A 7.43 38 12.41 17 2.23
Julius Baer Intl Eqty A 15.19 16 11.99 18 0.73
Oppenheimer Glob Oppor A 17.51 10 11.90 19 0.61
T. Rowe Price New Asia 17.93 7 11.80 20 0.59
Vanguard Em Mkt Idx 15.25 15 11.57 21 0.70
AmCent Intl Disc Inv 16.09 13 11.29 22 0.63
Oppenheimer Glob A 13.78 18 11.26 23 0.76
Masters’ Select Intl 14.41 17 11.23 24 0.72
Tweedy, Browne Glob Val 9.46 31 11.12 25 1.27
Morgan Stan Ins IntlEq A 9.43 32 10.96 26 1.25
Fidelity Diversified Int 11.43 27 10.96 27 0.94
Templeton Foreign A 9.93 29 10.49 28 1.08
Templeton Devel Mkts A 12.54 20 10.21 29 0.75
Fidelity Pacific Basin 12.10 24 9.49 30 0.70
Artisan International 12.17 23 9.09 31 0.65
Columbia Acorn Intl Z 11.46 26 8.91 32 0.69
Harbor Intl Instl 8.67 34 8.62 33 0.99
Amer Funds New Persp A 8.89 33 8.61 34 0.95
Templeton World A 7.75 36 7.98 35 1.05
Amer Funds EuroPac A 8.01 35 7.56 36 0.90
Bernstein Tx-Mgd Intl 7.36 39 7.51 37 1.04
Janus Overseas 9.85 30 7.07 38 0.57
Fidelity Worldwide 7.10 40 7.03 39 0.98
Putnam Intl Equity A 7.53 37 6.84 40 0.83
MFS Global Total Retrn A 4.93 43 6.60 41 2.16
Vanguard Intl Value 5.90 41 5.82 42 0.97
UMB Scout WorldWide 5.38 42 5.68 43 1.16
Fidelity Overseas 4.50 44 4.35 44 0.85
AmCent Intl Growth Inv 4.31 45 4.08 45 0.72
Janus Worldwide 3.36 46 3.40 46 0.71
Vanguard Intl Gr 3.09 47 3.11 47 0.94
Vanguard Total Intl Stk 3.06 48 3.07 48 0.98 Table V.
Vanguard Eur Stk Idx 1.95 49 2.09 49 0.91 Five-year annualized
MSCI EAFE 1.75 50 1.75 50 1.00 performance: unadjusted
T. Rowe Price Intl Stk 1.29 51 1.53 51 0.89 and adjusted for risk
MF rather than any other fund. Thus, the methodology developed by Modigliani and
34,1 Modigliani (1997) enables the investor to compute the optimal degree of leverage (or,
equivalently, the amount of dollars to borrow) to attain any desired level of return. It is
worth noting the improvement of American Funds Capital Income Builder from an
unadjusted rank of 38 to an adjusted rank of 17. This is due to the fact that it has the
lowest quarterly standard deviation of 4.7 sper cent, which translates into the highest
leverage factor of 2.23. Finally, it may also be noted that the funds (and the benchmark
16 EAFE index itself), which are ranked the lowest (ranks 44 through 51) on an
unadjusted basis, are at the same lowest ranks on a risk-adjusted basis.

Ten-year performance
Data on quarterly returns over the ten-year period 1994-2003 are available for 22 of
these funds. The funds are identified in Table VI with benchmark EAFE index and in
Table VII with benchmark S&P500 index along with their risk, return, and
performance statistics. The funds are ranked in descending order according to their
total assets as of 31 December, 2003. The largest of these funds is, of course, American
Funds EuroPacific Growth with total assets of approximately $33.8 billion. The funds
with the highest mean returns are American Funds Capital World Growth and Income,
Oppenheimer Global, and First Eagle Overseas with average quarterly returns of 3.3

EAFE
Assets AVG STD Sharpe M Alpha
Stock mutual funds ($ million) (%) (%) measure Beta squared Alpha t-stat* Treynor

1. Amer Funds EuroPac A 33,798 2.4 9.5 0.15 0.97 2.38 1.00 0.48 1.43
2. Amer Funds New Persp A 30,630 3.1 9.1 0.23 0.93 3.11 1.70 0.83 2.22
3. Amer Funds CplncBldr A 23,525 2.7 4.5 0.36 0.30 4.32 1.51 0.77 5.50
4. Templeton Growth A 17,038 2.8 7.9 0.22 0.72 3.01 1.42 0.69 2.36
5. Amer Funds CapWrldGI A 16,744 3.3 7.4 0.30 0.74 3.73 1.90 0.97 2.95
6. Templeton Foreign A 14,028 2.0 8.3 0.12 0.78 2.13 0.68 0.30 1.27
7. Fidelity Diversified Int 13,559 3.0 9.0 0.22 0.94 3.06 1.62 0.79 2.13
8. Putnam Intl Equity A 12,451 2.7 10.6 0.15 1.09 2.42 1.16 0.54 1.47
9. Janus Worldwide 10,965 2.8 11.9 0.15 1.11 2.39 1.32 0.58 1.59
10. Oppenheimer Glob A 9,113 3.3 11.0 0.20 1.06 2.90 1.82 0.82 2.12
11. Vanguard Intl Gr 7,639 1.7 9.3 0.07 0.98 1.70 0.27 0.13 0.67
12. Vanguard Eur Stk Idx 7,484 2.6 9.7 0.16 0.99 2.50 1.16 0.55 1.57
13. Harbor Intl Instl 6,284 2.8 9.1 0.19 0.94 2.76 1.35 0.65 1.84
14. First Eagle Overseas A 4,935 3.3 6.5 0.35 0.57 4.24 2.05 1.07 3.99
15. First Eagle Glbl A 4,860 3.1 5.5 0.37 0.47 4.40 1.84 0.98 4.34
16. T. Rowe Price Intl Stk 4,597 1.4 9.7 0.03 1.03 1.33
0.12
0.05 0.29
17. Tweedy, Browne Glob Val 4,189 2.9 7.8 0.24 0.67 3.20 1.57 0.77 2.75
18. Oakmark International I 3,691 2.7 11.4 0.15 0.94 2.38 1.29 0.55 1.78
19. AmCent Intl Growth Inv 3,195 2.1 11.6 0.09 1.09 1.85 0.59 0.27 0.94
20. Templeton Devel Mkts A 2,316 1.4 13.0 0.03 1.05 1.29
0.08
0.02 0.32
21. Columbia Acorn Intl Z 1,680 2.5 11.9 0.12 1.12 2.13 0.97 0.43 1.27
22. Fidelity Worldwide 957 2.2 9.3 0.12 0.95 2.13 0.73 0.35 1.17
Table VI. Benchmarks
Ten-year performance on MSCI EAFE 1.5 9.0 0.04 1.00 1.46 0.00 0.00 0.40
a quarterly basis using US 90-day Treasury bill 1.1 0.4 0.00
0.01 1.05 0.00
0.28 0.00
the MSCI index as
Benchmark (1994-2003) Note: *None of the t-statistics is significant at the 5 per cent level
 S&P500 Performance of
Assets AVG STD Sharpe M Alpha
Stock mutual funds ($ million) (%) (%) measure Beta squared Alpha t-stat* Treynor
international
mutual funds
1. Amer Funds EuroPac A 33,798 2.4 9.5 0.15 0.91 2.35
0.42
0.29 1.53
2. Amer Funds New Persp A 30,630 3.1 9.1 0.23 0.95 3.08 0.19 0.04 2.19
3. Amer Funds CplncBldr A 23,525 2.7 4.5 0.36 0.38 4.27 0.88
0.23 4.33
4. Templeton Growth A 17,038 2.8 7.9 0.22 0.73 2.98 0.27
0.15 2.35 17
5. Amer Funds CapWrldGI A 16,744 3.3 7.4 0.30 0.76 3.68 0.69 0.11 2.89
6. Templeton Foreign A 14,028 2.0 8.3 0.12 0.72 2.11
0.44
0.52 1.37
7. Fidelity Diversified Int 13,559 3.0 9.0 0.22 0.84 3.02 0.32 0.00 2.37
8. Putnam Intl Equity A 12,451 2.7 10.6 0.15 1.01 2.39
0.41
0.18 1.58
9. Janus Worldwide 10,965 2.8 11.9 0.15 1.16 2.37
0.54
0.09 1.52
10. Oppenheimer Glob A 9,113 3.3 11.0 0.20 1.07 2.87 0.12 0.12 2.10
11. Vanguard Intl Gr 7,639 1.7 9.3 0.07 0.91 1.69
1.14
0.65 0.73
12. Vanguard Eur Stk Idx 7,484 2.6 9.7 0.16 0.96 2.48
0.35
0.20 1.63
13. Harbor Intl Instl 6,284 2.8 9.1 0.19 0.88 2.73
0.02
0.13 1.97
14. First Eagle Overseas A 4,935 3.3 6.5 0.35 0.47 4.19 1.35 0.17 4.86
15. First Eagle Glbl A 4,860 3.1 5.5 0.37 0.42 4.35 1.20 0.03 4.83
16. T. Rowe Price Intl Stk 4,597 1.4 9.7 0.03 0.95 1.33
1.60
0.81 0.31
17. Tweedy, Browne Glob Val 4,189 2.9 7.8 0.24 0.68 3.17 0.49
0.08 2.71
18. Oakmark International I 3,691 2.7 11.4 0.15 0.92 2.36
0.17
0.14 1.81
19. AmCent Intl Growth Inv 3,195 2.1 11.6 0.09 1.01 1.84
0.98
0.42 1.01
20. Templeton Devel Mkts A 2,316 1.4 13.0 0.03 1.03 1.29
1.70
0.66 0.33
21. Columbia Acorn Intl Z 1,680 2.5 11.9 0.12 1.01 2.11
0.58
0.24 1.41
22. Fidelity Worldwide 957 2.2 9.3 0.12 0.93 2.12
0.74
0.43 1.20
Benchmarks Table VII.
S&P500 3.0 8.9 0.22 1.00 3.04 0.00 0.00 1.99 Ten year performance on
US 90-day Treasury bill 1.1 0.4 0.00 0.00 1.05
0.01
1.41 0.00 a quarterly basis using
the S&P500 index as
Note: *None of the t-statistics is significant at the 5 per cent level benchmark (1994-2003)

per cent. In comparison, the quarterly mean return of the benchmark EAFE index is 1.5
per cent and the quarterly mean return of the benchmark S&P500 index is 3.0 per cent.
The fund with the highest total risk (measured by the standard deviation of returns) is
Templeton Developing Markets with a quarterly standard deviation of 13.0 per cent.
Again, in comparison, the standard deviation of the benchmark EAFE index is 9.0 per
cent and the standard deviation of the benchmark S&P500 index is 8.9 per cent.
Further, Tables VI and VII report the numerical values of the Sharpe measures, which
are used to rank the funds in Tables VIII and IX. The highest Sharpe measure obtained
(0.37) is by First Eagle Global. In comparison, the Sharpe measure of the benchmark
EAFE index is 0.04 and the Sharpe measure of the benchmark S&P500 index is 0.22.
Table VI also reports the values of fund Betas, M squared measures, Jensen’s
Alphas (and their t-statistics), and Treynor measures, all of which are computed using
the benchmark EAFE index. The fund with the highest systematic risk (Beta ¼ 1.12) is
Columbia Acorn International. The fund with the highest M squared measure (4.40) is
First Eagle Global. In comparison, the benchmark EAFE index has an M squared
measure of 1.46. The fund with the highest Alpha measure is First Eagle Overseas
with Alpha equal to 2.05. None of the fund Alphas is significantly different from
zero. Finally, the fund with the highest Treynor measure (5.50) is American Funds
Capital Income Builder. In comparison, the Treynor measure for the benchmark EAFE
index is 0.40.
MF Stock mutual funds Sharpe rank (M Squared rank) Treynor rank Alpha rank
34,1
First Eagle Glbl A 1 2 3
Amer Funds CplncBldr A 2 1 8
First Eagle Overseas A 3 3 1
Amer Funds CapWrldGI A 4 4 2
Tweedy, Browne Glob Val 5 5 7
18 Amer Funds New Persp A 6 7 5
Fidelity Diversified Int 7 8 6
Templeton Growth A 8 6 9
Oppenheimer Glob A 9 9 4
Harbor Intl Instl 10 10 10
Vanguard Eur Stk Idx 11 13 13
Putnam Intl Equity A 12 14 14
Janus Worldwide 13 12 11
Oakmark International I 14 11 12
Amer Funds EuroPac A 15 15 15
Fidelity Worldwide 16 18 17
Templeton Foreign A 17 16 18
Columbia Acorn Intl Z 18 17 16
AmCent Intl Growth Inv 19 19 19
Table VIII. Vanguard Intl Gr 20 20 20
Ten-year ranking using MSCI EAFE 21 21 21
the MSCI index as T. Rowe Price Intl Stk 22 23 23
benchmark (1994-2003) Templeton Devel Mkts A 23 22 22

Stock mutual funds Sharpe rank (M Squared rank) Treynor rank Alpha rank

First Eagle Glbl A 1 2 2

Amer Funds CplncBldr A 2 3 3
First Eagle Overseas A 3 1 1
Amer Funds CapWrldGI A 4 4 4
Tweedy, Browne Glob Val 5 5 5
Amer Funds New Persp A 6 8 8
S&P500 7 10 10
Fidelity Diversified Int 8 6 6
Templeton Growth A 9 7 7
Oppenheimer Glob A 10 9 9
Harbor Intl Instl 11 11 11
Vanguard Eur Stk Idx 12 13 13
Putnam Intl Equity A 13 14 14
Janus Worldwide 14 16 17
Oakmark International I 15 12 12
Amer Funds EuroPac A 16 15 15
Fidelity Worldwide 17 19 19
Templeton Foreign A 18 18 16
Columbia Acorn Intl Z 19 17 18
Table IX. AmCent Intl Growth Inv 20 20 20
Ten-year ranking using Vanguard Intl Gr 21 21 21
the S&P500 index as T. Rowe Price Intl Stk 22 23 22
benchmark (1994-2003) Templeton Devel Mkts A 23 22 23
Table VII reports the values of fund Betas, M squared measures, Jensen’s Alphas (and Performance of
their t-statistics), and Treynor measures, all of which are computed using the international
benchmark S&P500 index. The fund with the highest systematic risk (Beta=1.16) is
Janus Worldwide. The fund with the highest M squared measure (4.35) is First Eagle mutual funds
Global. In comparison, the benchmark S&P500 index has an M squared measure of
3.04. The fund with the highest Alpha measure is First Eagle Overseas with Alpha
equal to 1.35. None of the fund Alphas is significantly different from zero. Finally, the 19
fund with the highest Treynor measure (4.86) is First Eagle Overseas. In comparison,
the Treynor measure for the benchmark S&P500 index is 1.99.
Tables VIII and IX report the rankings of all the funds based on the Sharpe,
Treynor, and Alpha measures. It is interesting to note in Table VIII that only two funds
underperform the EAFE index based on all three measures. On the other hand, Table
IX shows that the S&P500 index is outperformed by merely six funds based on the
Sharpe measure and nine funds based on Treynor and Alpha measures. Finally, the
ten-year rankings of these funds appear to be more consistent than their five-year
rankings with respect to the three different measures.
Table X reports the average returns that accrue to the funds with and without risk-
adjustment. The risk-adjustment is performed by using only the MSCI EAFE index as
the benchmark. The returns, once again, are annualized for the convenience of
investors. First Eagle Overseas, which ranks first on the basis of mean (unadjusted)
returns, falls back to rank three on the basis of returns adjusted for risk. On the other
hand, First Eagle Global, which ranks fifth on an unadjusted basis, ranks first when
the returns are adjusted for risk. The leverage factor for this fund is 1.65, which implies
that an investor, who is comfortable with bearing the same level of risk as in the
benchmark EAFE index, could lever the fund (borrow 65 per cent of his/her down
payment, if possible, at the risk-free rate of return and invest in the fund) and thereby
attain an annual return level of 18.81 per cent. The example below details how this
return can be obtained.
Consider an investor who would like to earn superior returns on an international
mutual fund and, at the same time, bear only an average level of risk. In this context,
the average level of risk is measured by the standard deviation of the benchmark
EAFE index (which is 9.0 per cent on a quarterly basis). Now consider the following
investment strategy. Suppose that the investor has $1,000 to invest. The investor could
borrow an additional $650 and invest a total of $1,650 in First Eagle Global. The end of
quarter gross return on the portfolio will be $1,6500.031 ¼ $51.15. Suppose that the
borrowed funds were contracted at the quarterly risk-free rate of 1.1 per cent. In that
case, the cost of borrowed funds is $650  0.011 ¼ $7.15. The portfolio return, net of
interest cost, is $51.15
7.15 ¼ $44, which is a return of 4.4 per cent on a quarterly
basis or 18.80 per cent (18.81 per cent in Table X due to rounding differences) on an
annual basis. Note that the quarterly risk of this portfolio is 1.65  5.5 ¼ 9.1 per cent (or
9.0 per cent had the reported values not been rounded), which is equal to the quarterly
standard deviation of the benchmark EAFE index. This investment strategy, therefore,
enables the investor to earn superior returns for an average level of risk.
Before discussing the results, it is worth noting the improvement of American
Funds Capital Income Builder from an unadjusted rank of 12 to an adjusted rank of 2.
This is due to the fact that it has the lowest quarterly standard deviation of 4.5 per cent,
which translates into the highest leverage factor of 2.00. Finally, it may also be noted
that the funds (and the benchmark EAFE index itself), which are ranked the lowest
MF Unadjusted Adjusted
34,1 annualized Unadjusted annualized Adjusted Leverage
Stock mutual funds returns (%) rank returns (%) rank factor

First Eagle Glbl A 12.92 5 18.81 1 1.65

Amer Funds CplncBldr A 11.18 12 18.42 2 2.00
First Eagle Overseas A 14.04 1 18.07 3 1.39
20 Amer Funds CapWrldGI A 13.65 3 15.76 4 1.22
Tweedy, Browne Glob Val 12.11 7 13.43 5 1.16
Amer Funds New Persp A 13.13 4 13.03 6 0.99
Fidelity Diversified Int 12.77 6 12.79 7 1.00
Templeton Growth A 11.52 10 12.61 8 1.15
Oppenheimer Glob A 13.87 2 12.12 9 0.82
Harbor Intl Instl 11.60 9 11.51 10 0.99
Vanguard Eur Stk Idx 10.89 14 10.40 11 0.93
Putnam Intl Equity A 11.05 13 10.02 12 0.85
Janus Worldwide 11.76 8 9.92 13 0.76
Oakmark International I 11.33 11 9.86 14 0.79
Amer Funds EuroPac A 10.14 16 9.85 15 0.95
Fidelity Worldwide 8.96 17 8.80 16 0.97
Templeton Foreign A 8.42 19 8.80 17 1.09
Columbia Acorn Intl Z 10.27 15 8.78 18 0.76
AmCent Intl Growth Inv 8.58 18 7.63 19 0.78
Table X. Vanguard Intl Gr 7.04 20 6.96 20 0.97
Ten-year annualized MSCI EAFE 5.95 21 5.95 21 1.00
performance: unadjusted T. Rowe Price Intl Stk 5.52 23 5.43 22 0.93
and adjusted for risk Templeton Devel Mkts A 5.70 22 5.27 23 0.69

(ranks 15 through 23) on an unadjusted basis, continue to hold the lowest nine ranks on
a risk-adjusted basis.

Discussion
Investors who want to invest in international mutual funds need to make, at least, two
important decisions: one, which international mutual funds to hold, and two, how
much money to invest in each. Regarding the first decision, this study uses the M
squared measure to identify the mutual funds that yield the highest return per unit of
risk. The contribution of this study to the existing body of literature is that it is one
of the first studies that apply the new M squared measure to evaluate the performance
of international mutual funds using both domestic and international benchmark
indices. The results are reported in per centage terms in a manner, which is easily
comprehensible to an average investor. This is in contrast to most studies on
international mutual funds, which report risk-adjusted returns using absolute
performance measures that are difficult to interpret. Regarding the second decision on
how much money to invest, the study highlights the role of leverage in attaining a
desired level of risk. For the benefit of an investor who is comfortable with an average
level of risk (for example, the risk that exists in a portfolio indexed to the benchmark
EAFE), this study presents the leverage factor that an investor needs to attain. Once
again, this is in contrast to existing literature on the subject, which does not provide
much guidance on the degree of leverage that would be needed to attain a desired level
of return by investing in international mutual funds.
Conclusion Performance of
This study provides documentation on the risk-adjusted performance of international international
mutual funds. The evaluation is based on objective performance measures grounded in
modern portfolio theory. Using the methodology developed by Modigliani and mutual funds
Modigliani in 1997, the study reports the returns that would have accrued to these
mutual funds, had the fund managers taken the same degree of risk as that which
prevails in the benchmark EAFE index, for a five-year holding period as well as a ten- 21
year holding period. It is evident from the empirical results of this study that the funds
with the highest average returns may lose their attractiveness to investors once the
degree of risk embedded in the fund has been factored into the analysis. Conversely,
some funds, whose average (unadjusted) returns do not stand out, may look very
attractive once their low risk is factored into their performance. This study also
demonstrates how financial leverage can be used to raise the returns on international
mutual funds with low risk. Alternatively, the risk of some funds can be lowered by
unlevering the investor’s holding. The empirical evidence presented in this study can
be used as input in decision-making by investors who are exploring the possibility of
participating in the global stock market via international mutual funds, but are not
sure of what selection criteria to employ. On a final note, future researchers may want
to update the information presented in this study on a regular basis, for the benefit of
investors who are evaluating investment opportunities in international mutual funds.
It may also be worthwhile to research the effects of factors, such as fund manager
compensation, service fees, corporate governance metrics, and overweighting in risky
countries/regions, on the performance of international mutual funds.

References
Bailey, B.A., Heck, J.L. and Wilkens, K.A. (2005), ‘‘International mutual fund performance and
political risk’’, Review of Pacific Basin Financial Markets and Policies, Vol. 8 No. 1,
pp. 167-84.
Carhart, M.M. (1997), ‘‘On persistence in mutual fund performance’’, Journal of Finance, Vol. 52,
pp. 57-82.
Chang, E.C. and Lewellen, W.G. (1984), ‘‘Market timing and mutual fund investment
performance’’, Journal of Business, Vol. 57, pp. 57-72.
Cumby, R.E. and Glen, J.D. (1990), ‘‘Evaluating the performance of international mutual funds’’,
Journal of Finance, Vol. 45, pp. 497-521.
Daniel, K., Grinblatt, M., Titman, S. and Wermers, R. (1997), ‘‘Measuring mutual fund
performance with characteristic-based benchmarks’’, Journal of Finance, Vol. 52,
pp. 1035-58.
Droms, W.G. and Walker, D.A. (1994), ‘‘Investment performance of international mutual funds,’’
Journal of Financial Research, Vol. 17, Spring, pp. 1-14.
Edwards, E. and Samant, A. (2003), ‘‘Investing with a conscience: an evaluation of the risk-
adjusted performance of socially responsible mutual funds’’, Mid-American Journal of
Business, Vol. 18 No. 1, pp. 51-60.
Eun, C.S., Kolodny, R. and Resnick, B.G. (1991), ‘‘US based international mutual funds:
a performance evaluation’’, Journal of Portfolio Management, Vol. 17, Spring, pp. 88-94.
Henrikkson, R.D. and Merton, R.C. (1981), ‘‘On market timing and investment performance II:
statistical procedures for evaluating forecasting skills’’, Journal of Business, Vol. 54,
pp. 513-33.
MF Jensen M.C. (1968), ‘‘The performance of mutual funds in the period 1945-64’’, Journal of Finance,
Vol. 23, pp. 389-416.
34,1 Kon, S.J. and Jen, F.C. (1979), ‘‘The investment performance of mutual funds: an empirical
investigation of timing, selectivity, and market efficiency’’, Journal of Business, Vol. 52,
pp. 263-89.
Kothari, S.P. and Warner, J.B. (2001), ‘‘Evaluating mutual fund performance’’, Journal of Finance,
Vol. 56, pp. 1985-2010.
22 Modigliani, F. and Modigliani, L. (1997), ‘‘Risk-adjusted performance’’, Journal of Portfolio
Management, Vol. 23, Winter, pp. 45-54.
Morningstar (1999), ‘‘Mutual Fund 500’’, Morningstar.
Morningstar (2004), ‘‘Funds 500’’, Morningstar.
Redman, A.L., Gullett, N.S. and Manakyan, H. (2000), ‘‘The performance of global and
international mutual funds’’, Journal of Financial and Strategic Decisions, Vol. 13, pp. 75-85.
Samant, A. and Edwards, E. (2000), ‘‘Evaluating international mutual funds using risk-adjusted
performance measures’’, Journal of Global Business, Vol. 11 No. 21, Fall, pp. 15-24.
Sharpe, W.F. (1966), ‘‘Mutual fund performance’’, Journal of Business, Vol. 39, pp. 119-38.
Treynor, J.L. (1965), ‘‘How to rate management of investment funds’’, Harvard Business Review,
Vol. 43, pp. 63-75.

Corresponding author
Onur Arugaslan can be contacted at: onur.arugaslan@wmich.edu

To purchase reprints of this article please e-mail: reprints@emeraldinsight.com

Or visit our web site for further details: www.emeraldinsight.com/reprints
Reproduced with permission of the copyright owner. Further reproduction prohibited without permission.