Sharpe Ratio

The Sharpe ratio measures how much return you earned for each unit of risk you took, where risk means the volatility of your returns.

A higher Sharpe means smoother, more efficient gains. A lower one got you the same result on a much wilder ride.

Sharpe Ratio = (Return − Risk-Free Rate) ÷ Standard Deviation of Returns

Subtract the risk-free rate from your return, then divide by the standard deviation of your returns. Standard deviation captures how much your returns swing around their average; bigger swings, even profitable ones, push the ratio down.

Example

Two crypto traders each return 40% over a year. Trader A's monthly returns barely wobble (low standard deviation) and posts a Sharpe of 2.0. Trader B hits the same 40% through violent monthly swings (high standard deviation) and scores 0.6. Same headline number, very different quality of return, and very different odds of repeating it.

What raw return hides

Raw return lies by omission. One trader can reach 40% on a calm equity curve; another hits the same 40% on a rollercoaster. They did not run the same strategy, even though the headline number matches.

The Sharpe ratio compares strategies on a level field. A modest, steady edge usually beats a volatile one that happens to have a good year, because the steady edge is survivable and repeatable. Read alongside max drawdown, it tells you whether your returns came from skill or from simply taking enormous risk. As a rough guide, above 1.0 is good, above 2.0 is excellent.

Sharpe Ratio

Example

What raw return hides

Related Terms

TMM computes your risk-adjusted performance from every synced trade.