Sortino Ratio

Looking at returns as a raw percentage is deceptive. A trade should not only be measured by the amount of money it made you or the percentage return you gained from the trade. The true measure of success is a high measure of Risk-Adjusted Return. The higher your risk adjusted return, the lower the amount of risk you took to make a higher return, and the more skilled you are as an investor or trader.

The Sortino ratio attempts to fix problems found in the Sharpe ratio. Extreme upside volatility decreases the Sharpe ratio but is beneficial to investors. Upside volatility shouldn’t punish risk-adjusted returns since it’s not a risk. Another benefit of the Sortino ratio is it uses the minimum accepted return instead of the risk-free rate. If your minimum accepted return is the risk-free rate, your MAR is pretty low. The MAR is typically the inflation rate (for bonds) or a market benchmark (for equities, equity funds, or equity derivatives funds). A higher Sortino ratio should always be preferred, especially against a high minimum acceptable return.