What is the Sharpe Ratio?

The Sharpe Ratio answers a critical question: “Am I being properly compensated for the risk I’m taking?”.

Understanding the stock market requires more than just looking at raw returns. Two portfolios might both return 12% annually, but if one experiences dramatic ups and downs while the other grows steadily, they’re not equivalent investments.

The Sharpe Ratio helps you determine whether the returns you’re getting justify the volatility and uncertainty you’re experiencing. Put simply, the Sharpe Ratio is the amount of return you earn for every unit of risk you take.