How to use Sharpe and Sortino ratios to optimize your strategy

What Is the Sharpe Ratio?

The Sharpe Ratio is commonly used to gauge the performance of a strategy by adjusting for its risk. The higher the ratio, the greater the strategy return relative to the amount of risk taken, and thus, the better the strategy. The ratio can be used to evaluate a single stock or strategy, or an entire portfolio.

Sharpe Ratio Grading Thresholds:

• Less than 1: Bad

• 1 – 1.99: Adequate/good

• 2 – 2.99: Very good

• Greater than 3: Excellent

What is the Sortino Ratio?

The Sortino ratio is an improvement of the Sharpe ratio, another metric that helps individuals gauge the performance of an investment when it has been adjusted for risk. What sets the Sortino ratio apart is that it acknowledges the difference between upside and downward risks. More specifically, it provides an accurate rate of return, given the likelihood of downside risk, while the Sharpe ratio treats both upside and downside risks equally.

As a rule of thumb, a Sortino ratio of 2 and above is considered ideal. Thus, this strategy’s 0.392 rate is unacceptable.