How to Calculate Sharpe Ratio

Average Return and Standard Deviation

• 1

  List the annual returns of your portfolio. If your portfolio is five years old, begin from the first year. For example:

  2005: 12 percent

  2006: -3 percent

  2007: 9 percent

  2008: -8 percent

  2009: 6 percent

• 2

  Calculate the average of portfolio returns by adding up each return percentage and dividing by the number of years.

  For example: 12 + -3 + 9 + -8 + 6 = 3.2

  This is your portfolio's average return.

• 3

  Subtract each year's individual return from average portfolio return. For example:

  2005: 3.2 - 12 = -8.8

  2006: 3.2 - -3 = 6.2

  2007: 3.2 - 9 = -5.8

  2008: 3.2 - -8 = 11.2

  2009: 3.2 - 6 = -2.8

• 4

  Square the individual deviations.

  For example:

  2005: -8.8 x -8.8 = 77.44

  2006: 6.2 x 6.2 = 38.44

  2007: -5.8 x -5.8 = 33.64

  2008: 11.2 x 11.2 = 125.44

  2009: -2.8 x -2.8 = 7.84

• 5

  Find the sum of each year's squared deviation.

  For example: 77.44 + 38.44 + 33.64 + 125.44 + 7.84 = 282.8

• 6

  Divide the sum by the number of years minus one.

  For example: 282.8 / 4 = 70.7

• 7

  Calculate the square root of this number.

  For example: 8.408

  This the annual standard deviation of the portfolio.

Sharpe Ratio

• 8

  Place your three numbers into the Sharpe Ratio equation.

• 9

  Subtract the rate of risk-free return from the rate of return for the portfolio.

  For example: (Using the previous numbers and the rate of return on a five-year US government bond) 3.2 - 1.43 = 0.3575

• 10

  Divide by the standard deviation.

  For example: 0.3575 / 8.408 = 0.04252 (approximate)

  This is your Sharpe Ratio.