The Sharpe ratio, introduced by William F. Sharpe in 1966 (originally as the 'reward-to-variability' ratio), measures how much extra return a strategy generated per unit of total volatility. It is the most cited risk-adjusted return statistic in finance.
Two annualization conventions: (a) compute Sharpe on daily returns and multiply by √252; (b) on hourly returns and multiply by √(24·365). The choice matters for crypto since markets trade continuously — using √252 on a 24/7 market understates volatility.
Sharpe penalizes upside volatility the same as downside, which is its main critique: strategies with large profitable jumps look worse than they should. The Sortino ratio fixes this by using downside deviation only.
Formula
Sharpe = (E[R_a] − R_f) / σ(R_a) annualized Sharpe (daily) = Sharpe · √252
Example
Strategy returns 18% annually, risk-free rate 2%, annualized vol 12%. Sharpe = (18 − 2) / 12 = 1.33.
How Noon Barbari uses Sharpe ratio
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Sharpe & drawdown calculator →Related terms
- Statistics
Sortino ratio
Sharpe variant that penalizes only downside volatility, not total volatility.
- Statistics
Calmar ratio
Annualized return divided by absolute maximum drawdown. Pain-adjusted return.
- Statistics
Standard deviation
Square root of variance — the most common volatility measure in trading.
- Risk
Drawdown
Peak-to-trough decline in equity, expressed as a percent of the prior peak.