What is the Sharpe Ratio and how is it used in investing?

What is the Sharpe Ratio and how is it used in investing?

The Sharpe Ratio is a measure of risk-adjusted return. It helps investors understand how much excess return they are receiving for the extra volatility they endure for holding a riskier asset.

How do you calculate the Sharpe Ratio?

To calculate the Sharpe Ratio, subtract the risk-free rate from the expected return of the investment, then divide that by the standard deviation of the investment's returns. The formula is: Sharpe Ratio = (Expected Return - Risk-Free Rate) / Standard Deviation.

What is a good Sharpe Ratio value?

A Sharpe Ratio above 1 is generally considered good, indicating that the investment has a favorable risk-return profile. A ratio above 2 is considered excellent.

Can the Sharpe Ratio be negative?

Yes, a negative Sharpe Ratio indicates that the risk-free rate is higher than the investment's return, suggesting that the investment is underperforming.