Sortino Ratio

The Sortino ratio is similar to Sharpe ratio, except calculation of Sharpe ratio involves both the upward and the downward volatility while Sortino ratio represents only downward volatility.

Just like Sharpe ratio, higher the Sortino ratio, better the return for unit risk.

Since most of the investors are only concerned about the downward volatility, Sortino ratio represents a more realistic picture of the downward risk.

The choice of using Sortino or Sharpe ratio for evaluating an investment is solely based on the individual, whether he/she wants to analyze the total volatility or the downside volatility. Both are commonly used for different applications.

Sortino ratio is given by the equation

    Sortino ratio = (Rp - Rf) / σd

Where, 

Rp=Expected return

Rf= Risk Free rate

σd= standard deviation of negative asset return

For example, Suppose a company XYZ has an annualized return of 11% and a downside deviation of 9%. The risk-free rate is 3%. The Sortino ratios for XYZ would be calculated as

Sortino ratio = (11% - 3%) / 9% = 0.88.