Sharpe Ratio Calculator
Calculate the Sharpe ratio to measure risk-adjusted returns. The Sharpe ratio shows how much excess return you receive for the extra volatility you endure for holding a riskier asset.
Sharpe Ratio Results
Risk-Adjusted Analysis
Sharpe Ratio Benchmarks
Excellent: > 1.0
Good: 0.5 - 1.0
Fair: 0.0 - 0.5
Poor: < 0.0
Note: Higher is better
Understanding the Sharpe Ratio
The Sharpe ratio, developed by Nobel laureate William F. Sharpe, measures the performance of an investment compared to a risk-free asset, after adjusting for its risk. It indicates how much excess return you receive for the extra volatility you endure.
Sharpe Ratio Formula
The Sharpe ratio is calculated as:
Sharpe Ratio = (R_p - R_f) ÷ s_p
Where: R_p = portfolio return, R_f = risk-free rate, s_p = portfolio volatility
Interpreting Sharpe Ratios
| Sharpe Ratio | Performance Level | Interpretation |
|---|---|---|
| > 1.0 | Excellent | Very good risk-adjusted returns |
| 0.5 - 1.0 | Good | Acceptable risk-adjusted performance |
| 0.0 - 0.5 | Fair | Average performance |
| < 0.0 | Poor | Underperforming risk-free assets |
Components of the Sharpe Ratio
- Excess Return: Return above the risk-free rate (R_p - R_f)
- Total Risk: Standard deviation of portfolio returns (s_p)
- Risk-Free Rate: Return on safe investments like Treasury bills
- Volatility: Measure of price fluctuation and uncertainty
Sharpe Ratio vs. Other Metrics
| Metric | Sharpe Ratio | Sortino Ratio | Information Ratio |
|---|---|---|---|
| Risk Measure | Total risk (volatility) | Downside risk only | Tracking error |
| Benchmark | Risk-free rate | Risk-free rate | Benchmark index |
| Best Use | Portfolio evaluation | Downside protection | Active management |
Applications
- Portfolio Comparison: Compare different investment strategies
- Fund Evaluation: Assess mutual fund and ETF performance
- Risk Assessment: Determine if returns justify the risk taken
- Asset Allocation: Optimize portfolio risk-return profile
- Performance Attribution: Understand sources of excess returns
Limitations
- Normal Distribution: Assumes returns follow normal distribution
- Total Risk: Penalizes upside volatility equally with downside
- Time Period: Results vary with different time horizons
- Market Conditions: Performance depends on market environment
- Survivorship Bias: Only considers surviving investments
Sharpe Ratio in Practice
Institutional investors and fund managers commonly use the Sharpe ratio to evaluate portfolio performance. A Sharpe ratio above 1.0 is generally considered good, while ratios above 2.0 are exceptional.
- Hedge Funds: Often target Sharpe ratios above 1.5
- Mutual Funds: Large-cap funds typically have ratios of 0.5-1.0
- Individual Stocks: High-quality stocks may have ratios of 0.3-0.8
- Bonds: Government bonds have lower ratios due to lower risk
Improving Sharpe Ratio
- Increase Returns: Improve investment selection and market timing
- Reduce Risk: Diversification and risk management strategies
- Optimize Allocation: Balance high-return and low-risk assets
- Use Derivatives: Hedging strategies to reduce volatility
- Rebalancing: Regular portfolio rebalancing to maintain target risk
Tip: The Sharpe ratio helps investors understand whether they're being adequately compensated for the risk they're taking. A higher Sharpe ratio indicates better risk-adjusted performance. Use it to compare similar investments and make informed decisions about portfolio allocation.