Short answer: The information ratio measures how much a fund’s returns beat or trail a benchmark, scaled by how volatile that gap is. It is calculated by subtracting the benchmark’s rate of return from the fund’s rate of return and dividing the result by the tracking error.
Last reviewed: 5 November 2026
At a glance
The table below summarises the key terms used in the calculation.
| Term | Plain meaning |
|---|---|
| Information ratio | Excess return divided by tracking error |
| Benchmark | The index a fund is measured against, usually a market index such as the Nifty 50 or a sector index |
| Excess return | The fund’s return minus the benchmark’s return |
| Tracking error | The standard deviation of excess returns over the benchmark |
| Low tracking error | Steady performance relative to the benchmark |
| High tracking error | More volatile performance relative to the benchmark |
What does the information ratio measure?
The information ratio compares a fund’s returns with a benchmark, the reference index against which the fund is judged. That benchmark is usually a market index such as the Nifty 50, or an index covering a particular industry or sector. Two funds can beat the same index by the same margin and still differ in how smoothly they do it. The ratio is designed to capture that difference.
How is the information ratio calculated?
Take the fund’s rate of return, subtract the benchmark’s rate of return, and divide the result by the tracking error. The first step gives the excess return, the amount by which the fund finished ahead of or behind its benchmark. Dividing by tracking error scales that gap by how much the excess return varies from period to period. A high ratio therefore needs both a positive gap and a fairly consistent one.
What is tracking error?
Tracking error is the standard deviation of a portfolio’s excess returns over its benchmark. Standard deviation is a measure of how widely a set of numbers spreads around their average. Tracking error is the divisor in the information ratio, and it shows how consistently a portfolio keeps up with and beats its benchmark. A low figure signals steady performance, while a high figure signals more volatile performance.
A low tracking error describes closeness to the benchmark, not a win over it. A fund that moves almost exactly with its index can have a low tracking error while still trailing that index after costs. The two numbers have to be read together.
How do investors use it to compare fund managers?
Investors use the information ratio to compare fund managers who follow similar investment strategies, because it shows how consistently each manager beats the benchmark. Comparing managers with very different strategies on this number is less meaningful, since their benchmarks and risks differ. For example, two funds that both track the Nifty 50 with similar approaches are a fairer pair than a Nifty 50 fund set against a sector fund.
How do fund managers use it, and what are the catches?
Fund managers use the information ratio to measure their own performance, and a better ratio can support a higher service charge, meaning the fee charged for managing the money. The catch is that the figure depends on the benchmark chosen and the period measured. A manager who picks an easier benchmark will show a better ratio without any change in skill. When you see a ratio quoted, check which index and which time period were used.
Worked example: how the numbers fit together (hypothetical)
The figures below are invented for illustration and are not the returns of any real fund. Suppose Fund A returns 14% in one year, its benchmark returns 12%, and its tracking error is 4 percentage points. The excess return is 2 percentage points, so the information ratio is 2 ÷ 4 = 0.5.
In rupee terms, ₹10 lakh invested at 14% would grow by ₹1.4 lakh, while the same amount at 12% would grow by ₹1.2 lakh. The gap is ₹20,000. Now suppose Fund B has the same 2-point excess return but a tracking error of only 1 point. Its ratio is 2 ÷ 1 = 2.0, which shows the same margin achieved more steadily. This is a description of how the formula works, not a prediction of future returns.
Frequently asked questions
Is a higher information ratio always better?
Not on its own. The ratio shows how consistently a manager beats the benchmark, so it is most useful for comparing managers who follow similar strategies. It also depends on the benchmark chosen.
What does tracking error tell me?
Tracking error is the standard deviation of a fund’s excess returns over its benchmark. A low figure signals steady performance relative to the benchmark, while a high figure signals more volatile performance.
Can I calculate the information ratio myself?
Yes, if you have the fund’s rate of return, the benchmark’s rate of return, and the tracking error. Subtract the benchmark’s return from the fund’s return, then divide by the tracking error.
Why do fund managers use the information ratio?
Fund managers use it to measure their own performance. A better ratio can support a higher service charge.
Sources and last check
Facts in this article were checked against the sources below on 5 November 2026. Rules and figures can change; check the primary source before acting.
- groww.in (broker education)
- dhan.co (broker education)
- icicidirect.com (broker education)
This article is general information, not investment advice. MyFinanceBandhu is not a SEBI-registered investment adviser.
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