Measure risk-adjusted returns — how much reward you earn per unit of risk.
A Sharpe Ratio above 1.0 is generally considered good, above 2.0 is excellent, and above 3.0 is exceptional. A ratio below 1.0 indicates the returns may not adequately compensate for the risk taken. Negative Sharpe Ratios mean the strategy is underperforming the risk-free rate.
Both measure risk-adjusted return, but the Sharpe Ratio uses total standard deviation (all volatility) while the Sortino Ratio uses only downside deviation. For strategies with asymmetric returns — like options selling — the Sortino Ratio is more informative because it doesn't penalize upside volatility.
The most commonly used risk-free rate is the current 3-month U.S. Treasury bill (T-bill) yield or the Fed funds rate. As of 2025, this is typically in the 4–5% range. Use whatever rate reflects the return you could earn with zero risk over the same period as your investment.
Yes. A negative Sharpe Ratio means the investment's return is below the risk-free rate, so you would have been better off simply holding T-bills. It signals that the strategy is destroying risk-adjusted value, though it does not directly tell you whether the investment had absolute gains or losses.
Options traders use the Sharpe Ratio to compare the risk-adjusted performance of different strategies — for example, covered calls vs. cash-secured puts vs. iron condors. A strategy with a higher Sharpe Ratio delivers more return per unit of risk, making it more capital-efficient over time.