Enter Values

%
Annualized arithmetic mean return
%
Treasury or T-Bill rate (annualized)
%
Annualized portfolio volatility
Ryan O'Connell, CFA
Calculator by Ryan O'Connell, CFA

Quick Reference

  • Higher Sharpe = Better risk-adjusted returns
  • Negative Sharpe = Underperforming risk-free rate
  • All inputs should be annualized
  • Compare investments over the same time period

Sharpe Ratio Result

Sharpe Ratio 0.37 Acceptable
Poor Good Excellent

Formula Breakdown

Sharpe Ratio = (Rp − Rf) / σp
= (10% − 4.5%) / 15%
= 5.5% / 15%
= 0.37

Interpretation

Your portfolio earns 0.37 units of excess return per unit of risk taken. This is considered acceptable but below average risk-adjusted performance.

Rating Guide (Industry Heuristics)

< 0 Negative Below risk-free rate
0 - 0.5 Poor Minimal excess return
0.5 - 1.0 Acceptable Reasonable returns
1.0 - 2.0 Good Strong performance
2.0 - 3.0 Very Good Excellent returns
> 3.0 Exceptional Verify data accuracy

Understanding the Sharpe Ratio

What is the Sharpe Ratio?

The Sharpe ratio, developed by Nobel laureate William Sharpe in 1966, is one of the most widely used metrics for evaluating investment performance. It measures the excess return (return above the risk-free rate) per unit of total risk (standard deviation).

In simple terms, the Sharpe ratio answers: "How much extra return am I getting for each unit of risk I'm taking?"

Key Insight: A higher Sharpe ratio indicates better risk-adjusted returns. An investment with a Sharpe ratio of 1.5 is earning 1.5 units of excess return for each unit of risk—twice as efficient as one with a Sharpe of 0.75.

How to Use the Sharpe Ratio

The Sharpe ratio is particularly useful for:

  • Comparing investments: Which mutual fund or ETF delivers better risk-adjusted returns?
  • Evaluating strategies: Is your trading strategy generating returns that justify its volatility?
  • Portfolio optimization: Should you add an asset that increases return but also increases risk?
  • Performance attribution: Did a portfolio manager add value or just take more risk?

Important Considerations

Consistency is Critical: All inputs must use the same time period. If your return is annualized, your risk-free rate and standard deviation must also be annualized. Mixing monthly returns with annual volatility will produce meaningless results.

Limitations

While valuable, the Sharpe ratio has limitations:

  • Assumes normal distribution: Investment returns often have fat tails and skewness
  • Penalizes upside volatility: Treats good surprises the same as bad ones
  • Historical data: Past performance doesn't guarantee future results
  • Ignores drawdowns: Doesn't capture the pain of large losses

Consider using the Sortino ratio (only penalizes downside volatility) or maximum drawdown alongside the Sharpe ratio for a more complete picture.

Frequently Asked Questions

A Sharpe ratio above 1.0 is generally considered good, indicating the portfolio is earning more excess return per unit of risk. A ratio above 2.0 is very good, and above 3.0 is excellent. However, these are industry heuristics, not fixed standards—always compare to similar investments or benchmarks rather than using absolute thresholds.

The Sharpe ratio formula is: (Portfolio Return − Risk-Free Rate) / Portfolio Standard Deviation. For example, if your portfolio returned 10%, the risk-free rate is 4%, and your volatility is 15%, the Sharpe ratio is (10% − 4%) / 15% = 0.40. All inputs must use the same time period (typically annualized).

A negative Sharpe ratio indicates the portfolio return is lower than the risk-free rate. This means you would have earned more by holding Treasury bills or other risk-free assets instead of taking on portfolio risk. It's a signal to reevaluate your investment strategy, though it doesn't necessarily mean you lost money in absolute terms.

Typically, use the yield on short-term government securities that match your investment horizon. For US investors, the 3-month Treasury bill rate is commonly used. As of 2024-2025, this is approximately 4-5%. Use current rates for forward-looking analysis. In some countries, risk-free rates can be negative.

Comparing Sharpe ratios across different time periods can be misleading because market conditions vary. A high Sharpe ratio during a bull market may not indicate skill—everyone looks good when markets rise. Always compare investments over the same time period for meaningful results.

The Sharpe ratio assumes returns are normally distributed (they often aren't), treats upside and downside volatility equally, and uses historical data that may not predict future performance. It also doesn't account for the sequence of returns or maximum drawdown. Consider using it alongside other metrics like Sortino ratio or maximum drawdown.

For meaningful results, use at least 3 years of monthly returns (36 data points) or 1 year of daily returns. Longer periods provide more statistical reliability. Monthly returns are most common for portfolio analysis, while daily returns may introduce noise. Whatever frequency you choose, ensure your return, risk-free rate, and standard deviation are all annualized consistently.
Disclaimer

This calculator is for educational and informational purposes only. The Sharpe ratio is a historical measure that uses past data and may not predict future performance. Investment decisions should consider multiple factors beyond risk-adjusted returns. Always consult with a qualified financial advisor before making investment decisions.

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