Written by - What Is a Risk-Return Ratio? The risk-return ratio compares the potential return of an investment to its risk, helping investors evaluate the trade-off between risk and reward.
- Common Risk-Return Ratios:
- Sharpe Ratio: Measures the performance of an investment compared to its risk, with a higher ratio indicating better risk-adjusted returns.
- Sortino Ratio: Similar to the Sharpe ratio but focuses on downside risk, providing a better view of potential negative outcomes.
- Treynor Ratio: Assesses the return relative to systematic risk (market risk), ideal for portfolios with diverse assets.
- How to Use Risk-Return Ratios:
- Assess Investment Quality: A higher risk-return ratio suggests a more favorable investment compared to others with similar risk levels.
- Portfolio Diversification: By evaluating risk-return ratios, you can balance high-risk, high-reward investments with safer options.
- Set Investment Goals: Risk-return ratios help investors align their portfolios with their financial goals, balancing the potential for growth with acceptable levels of risk.
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