![]() The Sortino ratio is very similar to the Sharpe ratio, the only difference being that where the Sharpe ratio uses all the observations for calculating the standard deviation, the Sortino ratio only considers the negative variance. □ - annualized standard deviation of returns.Think of this as a deposit in the bank earning x% per annum. □ - annual expected return of the asset in question.This allows us to adjust the returns on an investment by the amount of risk that was taken in order to achieve it. It is the ratio for comparing reward (return on investment) to risk (standard deviation). The basis on which I would compare the effectiveness of the said strategies would be based on the following ratios: In fact, I used a triplet i.e 3 stocks instead of a pair, for both the strategies. My idea was simple: I wanted to compare a Portfolio Allocation strategy with a Pair Trading (using Mean Reversion) strategy. ![]() Right then and there I had my project idea. While I was learning about the Pair Trading Strategy during my EPAT sessions, I thought to myself, why not create a project where I compare the Portfolio Allocation (Monte Carlo simulation based) strategy to a Pair trading strategy. I found the idea of running multiple simulations to be very intriguing. The first time that I came across the phrase ‘Monte Carlo simulations’ was when I was reading the book titled ‘Fooled by Randomness’ by Nassim Nicholas Taleb. The Calmar ratio changes gradually and serves to smooth out the overachievement and underachievement periods of a CTA's (Commodity Trading Advisors) performance more readily than the Sharpe ratio. Young believed the Calmar ratio was superior because: "The Calmar ratio is the average annual rate of return for the last 36 months divided by the maximum drawdown for the last 36 months. The name of his ratio "Calmar" is an acronym of his company's name and his newsletter: CALifornia Managed Accounts Reports Young owned California Managed Accounts, a firm in Santa Ynez, California, which managed client funds and published the newsletter CMA Reports. Young and first published in the trade journal titled ‘ Futures’. The year 1991 also gave rise to the Calmar Ratio. Rom and Kathleen Ferguson, two software designers, created the PMPT in 1991 when they believed there to be flaws in software design using the MPT. The PMPT stands in contrast to the modern portfolio theory (MPT) both of which detail how risky assets should be valued while stressing the benefits of diversification, with the difference in the theories being how they define risk and its impact on returns.īrian M. The post-modern portfolio theory (PMPT) is a portfolio optimization methodology that uses the downside risk of returns instead of the mean variance of investment returns used by the Modern Portfolio Theory (MPT) i.e the Sortino Ratio. This gave rise to the Post Modern Portfolio Theory. One of the key criticisms of the Sharpe Ratio was that it was poor at estimating tail risks a normal distribution is assumed, hence it cannot differentiate between positive and negative trades. It measures the performance of an investment (e.g., security or portfolio) compared to a risk-free asset, after adjusting for its risk. The Sharpe Ratio was developed after William F. It is advisable to use the Sharpe ratio metric along with the Sortino and Calmar ratio metrics, as the latter two ratios take into account the downside risk and the drawdown associated with a particular strategy. Pairs Trading seems to be a better alternative for the following sectors: Technology, Automobile, and Private Banks basket. ![]()
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