Sharpe Ratio Calculator

The Sharpe ratio measures risk-adjusted return. It shows how much excess return you receive for the extra volatility of holding a risky asset. Formula: (Portfolio Return - Risk-Free Rate) / Standard Deviation. Higher ratios indicate better risk-adjusted performance.

A Sharpe ratio above 1.0 is considered acceptable, above 2.0 is very good, and above 3.0 is excellent. Below 1.0 suggests poor risk-adjusted returns. The S&P 500 historically averages around 0.8-1.0. Top hedge funds often target 2.0+.

The risk-free rate is the return on an investment with zero risk, typically U.S. Treasury bills or bonds. Common choices are the 3-month T-bill rate (2-5%) or 10-year Treasury yield. Use the rate matching your investment timeframe.

Standard deviation measures volatility. Calculate it using historical returns: 1) Find the average return, 2) Calculate variance (average squared difference from mean), 3) Take the square root. Most portfolio software provides this automatically. Annualize monthly data by multiplying by sqrt12.

Yes, when portfolio returns are below the risk-free rate. A negative Sharpe ratio means you would have been better off in risk-free investments. For example, if your portfolio returned 2% but T-bills paid 4%, your Sharpe ratio would be negative.

Limitations include: 1) Assumes normal distribution of returns (not true for all assets), 2) Treats upside and downside volatility equally, 3) Can be manipulated by smoothing returns, 4) Less meaningful for non-linear strategies like options. Use alongside other metrics like Sortino ratio and maximum drawdown.

Higher Sharpe ratios indicate better risk-adjusted returns. Compare similar investments: stock funds to stock funds, not stocks to bonds. A portfolio with 10% return and 15% volatility (Sharpe 0.47 at 3% risk-free) beats one with 12% return and 20% volatility (Sharpe 0.45).

Sharpe ratio uses total volatility (standard deviation), penalizing both upside and downside moves. Sortino ratio only penalizes downside volatility, making it better for asymmetric return distributions. Sortino is generally more investor-friendly since upside volatility is desirable.