Risk-Adjusted Returns
performance per unit of risk
Risk-adjusted returns measure how much return an investment generates relative to the amount of risk taken. In crypto and traditional finance, this metric helps compare strategies not just by raw gains, but by efficiency, volatility, and downside protection. Tools like the Sharpe ratio, Sortino ratio, and maximum drawdown are commonly used to assess whether a high return justifies the risks taken to achieve itÔÇöespecially in volatile, yield-driven, or speculative environments.
Use Case: Two yield farms offer 30% APY. Farm A has stable, consistent returns with little price movement; Farm B fluctuates wildly with weekly drawdowns. A risk-adjusted analysis shows Farm A provides a better return per unit of risk taken.
Key Concepts:
- Sharpe Ratio ÔÇö Compares excess return over the risk-free rate to volatility.
- Sortino Ratio ÔÇö Focuses on downside risk instead of all volatility.
- Maximum Drawdown ÔÇö Largest peak-to-trough loss during a period.
- Volatility Efficiency ÔÇö Evaluating stable yield vs. high-risk rewards.
Summary: Risk-adjusted returns give a more honest picture of performance by factoring in how wild or consistent the journey wasÔÇönot just how high the number got. Essential for choosing between speculative, structural, or sustainable alpha strategies.
| Metric | Focus | Interpretation | Usage Example |
|---|---|---|---|
| Sharpe Ratio | Total Volatility | Higher = Better per unit of risk | Comparing two staking yields |
| Sortino Ratio | Downside Volatility Only | More useful in risk-averse setups | Evaluating DeFi vaults with capital protection |
| Max Drawdown | Worst Historical Loss | Lower = Safer strategy | Comparing performance dips between farms |