What is Sharpe Ratio ?

Are you willing to invest on something without actually knowing if it will actually generate a market and thereby a profit at the right time? Not if you are not actually an investor. You see, an investor is also a venture who wants to take risks on investments that are not actually sure to generate leads or profits.

There is always a 50-50 shot of making or not turning up a profit, but that is the beauty of it for investors. The risk they are taking will always justify the result they would be taking. And that is what you lived for, being an investor yourself.

If you wanted to be a little more systematic and scientific though, you will find a number of proven methods and investment strategies that will actually work for you and your investments. There are formulas you can use to know or predict if things are working out for you or not.

Among these is the Sharpe ratio, which is also dubbed as Sharpe measure or Sharpe index. In fact, it is also commonly called as the reward-to-variability ratio because its formula is used to measure the excess of the return, also known as the risk premium, each unit of the deviation of a particular investment or even a trading technique or strategy. The formula is named after its discoverer William Forsyth Sharpe.

Computing for the so-called Sharpe ratio allows you to know how well an investment work for a period of time. And to know if it really did well, you simply have to compare it with all the other Sharpe ratios you have for all your investments.

The higher your Sharpe ratio the better profit you gained for the risks you have taken on a particular investment. You can find all this out by computing for them with the use of the financial reports and statements that you have compiled for each investment. Simply put, you also have to improve on your organizational skill.

Apparently, Sharpe ratio will show you how an investment work but it doesn’t mean that you won’t be able to use this formula in predicting the probability of turning up a profit for a particular investment you are just in the process of eyeing for.

Remember that the formula is for computing how an investment fared over a risky period of time. All you have to do to find out the odds of turning up a profit on a new investment is to use variables to replace possibilities. Doing so will eventually provide you a number of probabilities in which you can make up your mind if it is actually just a risk or something that is worth risking your investment at.

The next time you feel investing over something, try using these tips to ensure better results and decreasing the chances of you being at the losing end:

1. Scout for a perfect investment. Where else can you find the best investments but on the stock market or from rumors spread through the grapevines. Once you have lean about these possible investments, list them up for further research on each of them. You know, it is best that you are well-versed on what you are about to risk your money at than blindly invest on them. Doing so will surely put you on the losing end.

2. Compute for its Sharpe ratio. Sure you still don’t have what you need to compute for this ratio but you can use variables to take the place of the constants. You can test the results from the worst possible scenario to the best. You will be able to judge the investments’ ability to turn out a profit through this so be very accurate and deliberate in using the figures that are necessary to come up with results.

3. Decide on taking a risk or pursuing another investment. Now that you have finally has the results you need, you can start figuring out the odds of turning up a profit or not in each of your thought about investments. You can do that by laying down the results systematically and defining what could be the worst case scenario if you pursue with the investment or not.

And also, justify the risk you are about to take by laying down the best case scenario as well. With all the results you need on the table, make a pick on which of these investments will you have a better chance of gaining profits. Once you do, put your money on that investment.

4. Repeat these steps over and over again until you land the safest and best bets. It is good to know that there is a formula you could use to test the worst and best scenarios of an investment before you finally throw your money on it.

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