Sharpe ratio
The Sharpe ratio is a risk-adjusted return measure: how much a return beats the risk-free rate per unit of volatility. Higher is better.
How it works
Formula: (portfolio return − risk-free rate) / standard deviation of returns. The risk-free rate is usually the yield on short-term government bonds. Standard deviation measures how much returns jump around, which is volatility.
It was introduced by economist William Sharpe in 1966. It lets you compare strategies with different returns: 40% a year with wild swings can be worse than 20% with a smooth climb. As a rough guide, around 1 is decent, above 2 is very good, and below 0 means you did worse than the risk-free rate.
The Sharpe ratio has limits. It penalises sharp moves up as much as moves down, it can miss rare crashes, and it depends on the period measured. It is usually quoted on an annual basis, and over a short stretch of the crypto market it can be very misleading.
A strategy returned 25% in a year, the risk-free rate was 4%, and annual volatility was 30%. Sharpe = (25 − 4) / 30 = 0.7. Another strategy returned 15% with 10% volatility: (15 − 4) / 10 = 1.1. The second earns less but is more efficient per unit of risk.
The mistake is comparing strategies by return alone, or computing a Sharpe ratio over a couple of good months. A short bull run produces pretty numbers that vanish in the first crash. Measure it over a long period with different market phases and read it alongside maximum drawdown.
Questions and answers
What is the Sharpe ratio in simple terms?
It is how much return you get for each unit of risk above the risk-free rate. It tells you whether the risk was worth it.
What is a good Sharpe ratio?
Roughly, around 1 is decent and above 2 is very good. A negative value means the strategy lost to the risk-free rate.
What is the difference between Sharpe and Sortino ratios?
Sortino counts only downside volatility, while Sharpe counts all swings, including sharp gains. So strategies with rare big wins often score higher on Sortino.
Related terms
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Updated: 2026-10-19