Course Name: Day Trading Strategies for Beginners, Section No: 7, Unit No: 1, Unit type: Notebook
What is the benchmark?
In the description of the Sharpe Ratio it says: "The Sharpe Ratio can be used to compare your portfolio to the benchmark to see how your portfolio is amortising the risk taken in the investment".
I have also seen plots where the return of the strategy is plotted against the Benchmark.
Sorry, but I don't understand the meaning of benchmark, nor how it is calculated and interpreted.
Hi Guillermo,
Whenever we are creating a strategy, we try to see if it is good enough. The first thing you would see is the strategy returns. A simple logic is your strategy returns should be more than 0. But then, you will wonder if the effort is worth it. What if, instead of trading on your strategy, you could just buy and hold any other asset. Will that give you more returns?
Further, instead of another asset, you could invest in an index fund or ETF and buy and hold. This is where the benchmark comes into the picture. Usually, traders compare their strategy returns with a benchmark index to see how good it is performing.
If your strategy gave annualised returns of 11% but the S&P500 index gave 15% returns, a trader will rather buy and hold in the index which feels relatively less risky.
A benchmark can even be an alternate strategy. Or even your own assets buy and hold strategy itself. If you are trading Apple, you can see what would be the total returns if you bought and held the shares for the period of time you backtested your strategy. And then compare.
In pyfolio, earlier the library used the SP500 index as the benchmark but to accommodate the international markets, it has made the benchmark attribute optional. Thus, if you don't specify the benchmark, it will not compare your strategy returns to a benchmark.
Link for update in pyfolio library: pyfolio/WHATSNEW.md at master · quantopian/pyfolio · GitHub
Hope this helps.
Perfect explanation, it was very clear to me.
Thank you very much Rekhit