Skip to main content
◆ ARIA
Log inSign up free
  1. Home
  2. /
  3. Glossary
  4. /
  5. Sharpe Ratio
Risk & Statistics

Sharpe Ratio

Risk-adjusted return measured as excess return per unit of total volatility.

Definition

The Sharpe Ratio measures how much excess return an investment generates per unit of total risk (standard deviation of returns). Developed by Nobel laureate William F. Sharpe in 1966, it is the most widely used risk-adjusted performance metric in finance. A higher Sharpe Ratio means you are being better compensated for the risk you are taking. Values above 1.0 are considered acceptable, above 2.0 are very good, and above 3.0 are excellent. Negative values mean you would have been better off in a risk-free asset like Treasury bills.

Formula

Sharpe = (Rp - Rf) / sigma_p

where:
  Rp     = portfolio annualized return
  Rf     = risk-free rate (e.g. 3-month T-Bill)
  sigma_p = portfolio annualized standard deviation

Worked example

A portfolio returns 14% annualized with 12% annualized volatility while the risk-free rate is 4%. Sharpe = (14% - 4%) / 12% = 0.83. A second portfolio returns 18% with 25% volatility: Sharpe = (18% - 4%) / 25% = 0.56. Even though the second one has higher absolute returns, the first is more efficient per unit of risk.

How ARIA Analyst uses it

ARIA computes Sharpe Ratio on every backtest and Walk-Forward run, and applies a Deflated Sharpe correction to account for multiple trials. The metric also feeds the Kelly sizing engine.

Related terms

  • Sortino Ratio

    A refinement of the Sharpe Ratio that penalises only downside volatility.

  • Calmar Ratio

    Annualised return divided by maximum drawdown, favouring strategies with shallow losses.

  • Volatility (σ)

    Standard deviation of returns — the most common dispersion-based risk measure.

  • Kelly Criterion

    Optimal fraction of capital to risk per bet to maximise long-term geometric growth.

  • Walk-Forward Analysis

    A backtesting procedure that retrains the model on a rolling window and tests on the next out-of-sample period.

See Sharpe Ratio in action on any asset

ARIA Analyst computes Sharpe Ratio automatically as part of a hybrid multi-agent investment report — 5 deterministic scoring agents plus AI augmentation (ML ensemble, Bull vs Bear debate, 10 Deep Search agents on Premium). Get yours in seconds.

Try ARIA Analyst free →
← Back to full glossary