Sharpe Ratio

The Sharpe Ratio measures the risk-adjusted return of an investment or portfolio. It helps investors assess whether the returns earned on an investment.

  • Formula : (Return of Investment - Risk-Free Rate) / Standard Deviation of Investment

  • Explanation : It calculates the excess return (return above the risk-free rate) per unit of risk (volatility) in the investment. A higher Sharpe Ratio indicates a better risk-adjusted return.

Sortino Ratio

The Sortino Ratio is also a risk-adjusted performance measure but focuses on downside risk. It assesses how well an investment compensates for the risk of losses.

  • Formula: (Return of Investment - Target Return) / Downside Standard Deviation
  • Explanation: Unlike the Sharpe Ratio, which considers all volatility, the Sortino Ratio only looks at the standard deviation of negative returns (downside volatility). It is particularly useful for evaluating strategies where minimizing losses is a priority.

Calmar Ratio

The Calmar Ratio assesses the risk-adjusted return of an investment by comparing its average annual return to its maximum drawdown (the largest peak-to-trough decline in value).

  • Formula: Average Annual Return / Maximum Drawdown
  • Explanation: A higher Calmar Ratio suggests that an investment has generated more return relative to the size of its worst loss. It’s often used in the context of hedge funds and managed futures strategies.