Sharpe Ratio
The Sharpe Ratio is one of the most widely used risk-adjusted performance metrics in finance. It measures the excess return of an investment portfolio per unit of its volatility.
Developed by Nobel laureate William F. Sharpe in 1966, the Sharpe Ratio helps investors understand whether a portfolio's excess returns are due to smart investment decisions or a result of taking on excessive risk. Two portfolios might have identical returns of 10% per year, but if one exhibits half the volatility of the other, its Sharpe Ratio will be twice as high, representing a vastly superior risk-adjusted profile.
The mathematical formula for the Sharpe Ratio is:Sharpe Ratio = (Rp - Rf) / σp
Where Rp is the expected portfolio return, Rf is the risk-free rate of return (such as T-Bills), and σp is the standard deviation (volatility) of the portfolio's excess returns.
On StrategyIndex.io, we track and display the Sharpe Ratio for all tactical and passive portfolios. For instance, Gary Antonacci's GEM (Global Equity Momentum) displays a Sharpe Ratio of 0.72, indicating a highly efficient return profile relative to its fluctuations. Generally, a Sharpe Ratio above 1.0 is considered good, above 2.0 is very good, and above 3.0 is outstanding, while ratios below 1.0 indicate varying degrees of efficiency.