Definition of Sharpe Ratio
The Sharpe Ratio is a risk-adjusted return metric that measures how much excess return a fund generates for each unit of risk (volatility) taken. It is calculated by dividing the fund's excess return (above the risk-free rate, typically 7% for India) by its standard deviation.
Formula: Sharpe Ratio = (Fund Return − Risk-Free Rate) ÷ Standard Deviation
A higher Sharpe Ratio means better risk-adjusted performance — the fund delivers more return per unit of risk. A Sharpe Ratio above 1 is considered good; above 2 is excellent. When comparing two funds with similar returns, the one with the higher Sharpe Ratio is the better choice because it took less risk to achieve those returns. Sharpe Ratio is one of the standard metrics displayed on AMC websites and platforms like Value Research and Morningstar.