What is the Sharpe Ratio
The Sharpe Ratio is a measure of the performance of an investment relative to its risk. It is calculated by taking a risk-adjusted return of the investment divided by the risk-free rate of return. The Sharpe Ratio is most often applied to mutual funds, stocks, or bonds in order to compare the yields of different investment portfolios for the purpose of making an educated decision as to which one is better. It can also be used to assess the performance of a portfolio over time.
The Sharpe Ratio is calculated by subtracting the risk-free rate of return from the rate of return of the investment, and then dividing this result by the standard deviation of the same investment over a certain period of time. A higher Sharpe Ratio is a sign of greater risk-adjusted returns for a given investment.
How to Calculate Sharpe Ratio in MT4
The formula to calculate Sharpe Ratio in MT4 is simple. First, you determine the return on your investment over a given period of time and then subtract the risk-free rate of return from it. The resulting number then needs to be divided by the standard deviation of the same investment over the same period. The higher the resulting number, the greater the risk-adjusted returns for a given investment.
In MT4, the Sharpe Ratio for Forex Trading is the ratio of arithmetic average profit (average income over a period) to standard deviation. How to calculate the Sharpe Ratio in MT4? The formula is:
Sharpe Ratio = ( ( Average Profit – Risk-free Rate of Return ) / Standard Deviation )
The Average Profit can be obtained from the Account History tab in the MT4 Terminal tools. The Risk-free Rate of Return is the rate of return of an investment without any risk, which can be obtained from different sources, such as the US Treasury or bank deposits. The Standard Deviation is obtained from the Population Standard Deviation function of the MT4 Terminal, which can also be found in the Account History tab.
Modifying the Sharpe Ratio
The Sharpe Ratio can be modified by altering the measure of “total risk” in the denominator of the Sharpe Ratio (i.e., the standard deviation). This can be done by adding factors such as the potential volatility of an investment, the liquidity of the investment, the time left until maturity, or any other factor that might have an impact on the value of the investment. In doing so, the risk-adjusted return of the investment can be improved, and the Sharpe Ratio can be increased.
In conclusion, the Sharpe Ratio can be a helpful tool for gauging the performance of an investment relative to its risk. By subtracting the rate of return of a risk-free investment from the rate of return of an investment portfolio and then dividing this result by the standard deviation of the portfolio, investors can gain an idea of whether an investment is of good quality or not. The resulting number can be modified by adjusting the measure of “total risk” in the denominator of the Sharpe Ratio, thereby improving the risk-adjusted returns of the investment.
What is the Sharpe Ratio?
The Sharpe ratio is a financial metric that helps investors measure the risk-adjusted return of a particular portfolio. It is calculated by subtracting the risk-free rate of return (such as the return on a Treasury bill) from the portfolio’s expected return and then dividing it by the portfolio’s volatility. The higher the Sharpe ratio, the better the portfolio’s risk-adjusted return. The Sharpe ratio is a widely used tool to decide which investments or portfolios are more profitable and have less risk.
How to Calculate Sharpe Ratio?
The Sharpe ratio is calculated by subtracting the risk-free rate of return from the portfolio’s expected return and then dividing it by the portfolio’s volatility. The risk-free rate of return is typically the return on a 10-year Treasury bill. The expected return is determined by the expected return of the investments in the portfolio. The volatility is the standard deviation of the portfolio’s returns over the past one year.
Reviewing Sharpe Ratio
In order to review the Sharpe ratio of a portfolio, the investor must first determine the portfolio’s expected return. This can be done by analyzing historical returns and investors’ expectations. The expected return should exceed the risk-free rate of return by more than the Sharpe ratio. If the expected return is lower than the risk-free rate of return, then the portfolio is not providing a risk-adjusted return and should be revisited.
Once the expected return has been determined, the volatility of the portfolio should be calculated. The volatility is the standard deviation of the portfolio’s returns over the past one year. A higher volatility translates to a higher Sharpe ratio, and vice versa. Finally, the Sharpe ratio can be calculated by subtracting the risk-free rate of return from the expected return and dividing it by the portfolio’s volatility.
The Sharpe ratio is a useful tool for investors to review their portfolios and determine the risk-adjusted return of the portfolio. By analyzing the expected return and volatility of the portfolio, investors can use the Sharpe ratio to decide whether they are getting sufficient risk-adjusted returns. Additionally, the Sharpe ratio can help investors compare different portfolios and choose the one with the best risk-adjusted return.
