Sharpe Ratio

What is Sharpe Ratio?

The Sharpe ratio measures how much return you earn for each unit of risk you take. It's calculated as: (Average Return - Risk-Free Rate) / Standard Deviation of Returns. In simpler terms, it rewards consistency — two traders making the same total profit, but one does it steadily while the other swings wildly, will have very different Sharpe ratios.

Why Consistency Matters for Prop Firms

Many prop firms have consistency rules that effectively demand a minimum Sharpe-like performance. They don't want a trader who makes $10,000 in one day and loses $9,000 the next — even though the net is positive. A high Sharpe ratio means your P&L curve is smooth and predictable.

• Below 0.5: Poor risk-adjusted returns — high volatility relative to profit
• 0.5 - 1.0: Acceptable for most prop firm evaluations
• 1.0 - 2.0: Good — consistent profitability with controlled risk
• Above 2.0: Excellent — very smooth equity curve

Improving Your Sharpe Ratio

To improve your Sharpe ratio, focus on reducing the volatility of your daily returns rather than maximizing your best days. Consistent 0.5% daily gains produce a better Sharpe ratio than alternating between +3% and -2% days, even though the latter might produce more total profit.