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A negative Sharpe ratio means the portfolio has underperformed its benchmark. All other things being equal, an investor typically prefers a higher positive Sharpe ratio as it has either higher returns or lower volatility. However, a negative Sharpe ratio can be made higher by either increasing returns (a good thing) or increasing volatility (a ...
When a risk-free asset is introduced, the half-line shown in the figure is the new efficient frontier. It is tangent to the hyperbola at the pure risky portfolio with the highest Sharpe ratio. Its vertical intercept represents a portfolio with 100% of holdings in the risk-free asset; the tangency with the hyperbola represents a portfolio with ...
Therefore, all portfolios should have a Sharpe ratio less than or equal to the market's. In consequence, if there is a portfolio (or asset) whose Sharpe ratio will be bigger than the market's then this portfolio (or asset) has a higher return per unit of risk (i.e. the volatility σ {\displaystyle \sigma } ), which contradicts the efficient ...
The slope of the capital allocation line is equal to the incremental return of the portfolio to the incremental increase of risk. Hence, the slope of the capital allocation line is called the reward-to-variability ratio because the expected return increases continually with the increase of risk as measured by the standard deviation .
The Sharpe ratio is awkward to interpret when it is negative. Further, it is difficult to directly compare the Sharpe ratios of several investments. For example, what does it mean if one investment has a Sharpe ratio of 0.50 and another has a Sharpe ratio of −0.50? How much worse was the second portfolio than the first?
The following table shows that this ratio is demonstrably superior to the traditional Sharpe ratio as a means for ranking investment results. The table shows risk-adjusted ratios for several major indexes using both Sortino and Sharpe ratios. The data cover the five years 1992-1996 and are based on monthly total returns.