Sharpe Ratio Decoded

Friend forwarded a fund factsheet on Saturday evening. Highlighted the 14 pct CAGR over five years. I asked him for the volatility number next to it. Long pause. The factsheet had it. Page four, in 8 point grey type. He had never looked.

Two funds can print the same return and be two completely different products. The CAGR is the marketing copy. The Sharpe is the receipt.

Same scenario. Two funds, both 14 pct CAGR. Fund A is a boring large cap stack at 12 pct annualised volatility. Fund B is an exciting thematic at 22 pct. Risk free rate 7 pct in both cases. Sharpe is just (Return minus RFR) divided by the volatility. Fund A . 0.58. Fund B . 0.32. Same end point on the chart, half the rupee earned per unit of risk to get there. The reason most investors quietly switch out of Fund B is not the return. It is the ride.

Reference numbers worth keeping in one place. NIFTY 50 TRI long run, Sharpe around 0.40. S and P 500 TR USD, around 0.50. Active largecap MF median in India net of fees, around 0.30. A clean quality cohort, 0.92. A systematic multi asset cohort with disciplined rebalance harvest, 1.20.

Above 1.5 over a real ten year window is rare globally. If the brochure prints 2.0, the methodology is the question. Smoothed monthly NAVs, illiquid holdings priced stale, survivorship in the cohort can all inflate the number. Real edge welcomes the audit.

Three rules to read any Sharpe by. Ask for the volatility next to every CAGR. Compare like for like . same window, same risk free rate, same return frequency. Anything above 1.5 over a decade earns the right to be questioned before it earns the right to be trusted.

The half you skip is the half that decides whether you actually hold