Sharpe Ratio
What is Sharpe Ratio?
A measure of return earned per unit of risk taken.
Understanding Sharpe Ratio
The Sharpe ratio subtracts the risk-free rate from a portfolio's return and divides by the portfolio's volatility. It lets you compare investments that took different amounts of risk.
A higher Sharpe ratio means better risk-adjusted performance. It assumes volatility captures risk, which can understate rare, extreme losses.
Formula
Here, is the portfolio return, the risk-free rate, and the standard deviation of the portfolio's returns.