The Sharpe ratio
The Sharpe ratio answers a simple question: did this fund reward the risk it took?
The Sharpe ratio divides a fund's return above the risk-free rate by its volatility. Formula: (annualised fund return minus risk-free rate) divided by annualised volatility.
What it captures
Two funds both up 8 % per year are not equal if one did it with 4 % volatility and the other with 15 %. The first has a much better Sharpe: it produced the same return while taking far less risk.
Rough scale
A negative Sharpe means the fund returned less than the risk-free option. Around 0.5, the risk is decently rewarded. Above 1, it is good. Values are best compared between funds of the same category over the same period.
The risk-free rate
FondsMaroc uses the median one-year return of Moroccan money-market funds as its reference, in the absence of a policy rate observable over the whole period. The choice of risk-free rate shifts every Sharpe by the same amount: it does not change the ranking.
Limits
The Sharpe penalises upside and downside volatility alike, whereas investors do not complain about good surprises. It also assumes roughly normal returns. Sortino and Calmar address part of these shortcomings.
See also
- Sharpe, Sortino, Calmar: the differences
Three ways to define risk in the denominator.
- Volatility and maximum drawdown
The size of the swings, and the worst historical loss.
- Reading fund performance
YTD, 1 / 3 / 5 years, cumulative versus annualised.