{"id":10954,"date":"2025-06-23T11:38:26","date_gmt":"2025-06-23T11:38:26","guid":{"rendered":"https:\/\/navia.co.in\/blog\/?p=10954"},"modified":"2026-08-06T10:10:09","modified_gmt":"2026-08-06T10:10:09","slug":"a-simple-guide-to-risk-adjusted-returns","status":"publish","type":"post","link":"https:\/\/navia.co.in\/blog\/a-simple-guide-to-risk-adjusted-returns\/","title":{"rendered":"Return is Easy, But What About Risk? A Simple Guide to Risk-Adjusted Returns (with a 7% Risk-Free Rate)"},"content":{"rendered":"<ul><li><a class=\"aioseo-toc-item\" href=\"#aioseo-what-is-risk-in-investing\">What is Risk in Investing?<\/a><\/li><li><a class=\"aioseo-toc-item\" href=\"#aioseo-mutual-fund-comparison-risk-free-rate-7\">Mutual Fund Comparison (Risk-Free Rate = 7%)<\/a><\/li><li><a class=\"aioseo-toc-item\" href=\"#aioseo-options-vs-etfs-using-sharpe-with-7-risk-free\">Options Vs ETFs (Using Sharpe with 7% Risk-Free)<\/a><\/li><li><a class=\"aioseo-toc-item\" href=\"#aioseo-why-risk-adjusted-return-matters\">Why Risk-Adjusted Return Matters?<\/a><\/li><li><a class=\"aioseo-toc-item\" href=\"#aioseo-sharpe-ratio-formula-refresher\">Sharpe Ratio Formula Refresher<\/a><\/li><li><a class=\"aioseo-toc-item\" href=\"#aioseo-bottom-line\">Bottom Line<\/a><\/li><\/ul>\n\n\n<blockquote style=\"border-left:4px solid #e8622f;background:#fdf1ec;padding:18px 22px;margin:1.5em 0;line-height:1.8\"><strong>&#128161; Quick Answer<\/strong><br>A risk-adjusted return shows how much return an investment produced for each unit of risk taken. Risk is the volatility of returns, measured by standard deviation. The Sharpe Ratio is return minus the risk-free rate, divided by standard deviation &#8212; a higher ratio means more return per unit of risk.<\/blockquote>\n\n\n\n<h2 class=\"wp-block-heading has-text-color has-link-color wp-elements-1\" id=\"aioseo-what-is-risk-in-investing\" style=\"color:#023368\">What is Risk in Investing?<\/h2>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"line-height:1.8;text-align:justify\">Risk is the <strong>volatility<\/strong> or <strong>uncertainty<\/strong> in your investment&#8217;s returns. Even if two <a href=\"https:\/\/navia.co.in\/blog\/category\/ipo-investments\/\">stocks<\/a> give the same average return, one might be much bumpier than the other. The <strong>bumpier<\/strong> one is riskier.<\/p>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"line-height:1.8;text-align:justify\">We use <strong>Standard Deviation<\/strong> to measure how much returns fluctuate. The more it jumps around, the higher the risk.<\/p>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"line-height:1.8;text-align:justify\"><strong>Example: Stock A vs Stock B (with Risk-Free Rate = 7%)<\/strong><\/p>\n\n\n\n<figure class=\"wp-block-table\"><table><tbody><tr><td><strong>Investments<\/strong><\/td><td><strong>Avg Annual Returns<\/strong><\/td><td><strong>Std. Dev (Risk)<\/strong><\/td><td><strong>Sharpe Ratio<\/strong><\/td><\/tr><tr><td><strong>Stock A<\/strong><\/td><td>12%<\/td><td>10%<\/td><td>(12%-7%) &#247; 10% = <strong>0.50<\/strong><\/td><\/tr><tr><td><strong>Stock B<\/strong><\/td><td>15%<\/td><td>20%<\/td><td>(15%-7%) &#247; 20% = <strong>0.40<\/strong><\/td><\/tr><\/tbody><\/table><\/figure>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"line-height:1.8;text-align:justify\">Even though Stock B gave a higher return, <strong>Stock A is more efficient<\/strong> &#8212; it generated more return per unit of risk.<\/p>\n\n\n\n<figure class=\"wp-block-embed is-type-video is-provider-youtube wp-block-embed-youtube wp-embed-aspect-16-9 wp-has-aspect-ratio\"><div class=\"wp-block-embed__wrapper\">\n<div class=\"jetpack-video-wrapper\"><iframe title=\"Sharpe Ratio Made Easy: Risk-Adjusted Returns Explained\" src=\"https:\/\/www.youtube.com\/embed\/75khF0-dW-E?feature=oembed\" frameborder=\"0\" allow=\"accelerometer; autoplay; clipboard-write; encrypted-media; gyroscope; picture-in-picture; web-share\" referrerpolicy=\"strict-origin-when-cross-origin\" allowfullscreen><\/iframe><\/div>\n<\/div><\/figure>\n\n\n\n<div style=\"height:50px\" aria-hidden=\"true\" class=\"wp-block-spacer\"><\/div>\n\n\n\n<div class=\"wp-block-buttons is-content-justification-center is-layout-flex wp-container-core-buttons-is-layout-fe48e5de wp-block-buttons-is-layout-flex\">\n<div class=\"wp-block-button\"><a class=\"wp-block-button__link has-white-color has-text-color has-background has-link-color wp-element-button\" href=\"https:\/\/navia.co.in\/app.html\" style=\"background-color:#ec4d37\"><strong>Get Navia APP<\/strong><\/a><\/div>\n<\/div>\n\n\n\n<h2 class=\"wp-block-heading has-text-color has-link-color wp-elements-2\" id=\"aioseo-mutual-fund-comparison-risk-free-rate-7\" style=\"color:#023368\">Mutual Fund Comparison (Risk-Free Rate = 7%)<\/h2>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"line-height:1.8;text-align:justify\">The same test applied to two mutual funds shows why the higher headline CAGR does not automatically win:<\/p>\n\n\n\n<figure class=\"wp-block-table\"><table><tbody><tr><td><strong>Mutual Funds<\/strong><\/td><td><strong>5Y CAGR<\/strong><\/td><td><strong>Std Dev<\/strong><\/td><td><strong>Sharpe Ratio<\/strong><\/td><\/tr><tr><td>Fund X<\/td><td>10%<\/td><td>8%<\/td><td>(10%-7%) &#247; 8% = <strong>0.375<\/strong><\/td><\/tr><tr><td>Fund Y<\/td><td>12%<\/td><td>15%<\/td><td>(12%-7%) &#247; 15% = <strong>0.33<\/strong><\/td><\/tr><\/tbody><\/table><\/figure>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"line-height:1.8;text-align:justify\">Fund X might be more &#8220;boring,&#8221; but it&#8217;s <strong>better adjusted for risk<\/strong>. Cost is the other quiet drag on the same comparison &#8212; see <a href=\"https:\/\/navia.co.in\/blog\/direct-vs-regular-mutual-fund-which-is-better\/?utm_source=blog&amp;utm_medium=internal_link&amp;utm_campaign=mutual_funds\">direct vs regular mutual funds<\/a> for what the expense ratio does to the return side of this ratio.<\/p>\n\n\n\n<h2 class=\"wp-block-heading has-text-color has-link-color wp-elements-3\" id=\"aioseo-options-vs-etfs-using-sharpe-with-7-risk-free\" style=\"color:#023368\">Options Vs ETFs (Using Sharpe with 7% Risk-Free)<\/h2>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"line-height:1.8;text-align:justify\">Let&#8217;s say:<\/p>\n\n\n\n<ul style=\"margin:1em 0;line-height:1.9\">\n<li style=\"margin-bottom:0.8em;line-height:1.8\">Nifty <a href=\"https:\/\/navia.co.in\/blog\/category\/etf-strategies\/\">ETF<\/a> gives a <strong>10%<\/strong> return, risk (std dev) <strong>7%<\/strong><\/li>\n<li style=\"margin-bottom:0.8em;line-height:1.8\">Nifty <a href=\"https:\/\/navia.co.in\/blog\/what-is-a-call-option-in-the-share-market\/\">Call Option<\/a> gives a <strong>30%<\/strong> return, risk (std dev) <strong>35%<\/strong><\/li>\n<\/ul>\n\n\n\n<figure class=\"wp-block-table\"><table class=\"has-fixed-layout\"><tbody><tr><td><strong>Investments<\/strong><\/td><td><strong>Returns<\/strong><\/td><td><strong>Std Dev<\/strong><\/td><td><strong>Sharpe Ratio<\/strong><\/td><\/tr><tr><td>Nifty ETF<\/td><td>10%<\/td><td>7%<\/td><td>(10%-7%) &#247; 7% = <strong>0.43<\/strong><\/td><\/tr><tr><td>Nifty Option<\/td><td>30%<\/td><td>35%<\/td><td>(30%-7%) &#247; 35% = <strong>0.66<\/strong><\/td><\/tr><\/tbody><\/table><\/figure>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"line-height:1.8;text-align:justify\"><strong>This time, the option appears better on a risk-adjusted basis<\/strong> &#8212; but it comes with higher capital loss risk and requires skill. That&#8217;s why <strong>Sharpe ratio must be interpreted carefully<\/strong>, especially in derivatives.<\/p>\n\n\n\n<a href=\"https:\/\/open.navia.co.in\/index-navia.php?utm_source=Organic&amp;utm_medium=blog&amp;utm_campaign=blog&amp;utm_content=risk_adjusted_returns_CTA\" target=\"_blank\" style=\"display:flex;width:100%\"><img decoding=\"async\" src=\"https:\/\/d1l8l3rp33cdzs.cloudfront.net\/images\/naviacee\/Open-free-demat-account%20%28blog%29%20%281%29.gif\" alt=\"open a free demat account with Navia to compare funds on risk-adjusted returns\" width=\"80%\" height=\"auto\" style=\"border-radius:10px;margin:5px auto;max-width:100%;height:auto\" \/><\/a>\n\n\n\n<h2 class=\"wp-block-heading has-text-color has-link-color wp-elements-4\" id=\"aioseo-why-risk-adjusted-return-matters\" style=\"color:#023368\">Why Risk-Adjusted Return Matters?<\/h2>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"line-height:1.8;text-align:justify\">Risk-adjusted return matters because two investments with similar returns can put you through very different journeys to get there. Imagine these two funds:<\/p>\n\n\n\n<ul style=\"margin:1em 0;line-height:1.9\">\n<li style=\"margin-bottom:0.8em;line-height:1.8\">Fund A: 15% return with low volatility &#8594; more peace of mind<\/li>\n<li style=\"margin-bottom:0.8em;line-height:1.8\">Fund B: 17% return with wild swings &#8594; stressful and riskier<\/li>\n<\/ul>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"line-height:1.8;text-align:justify\">Sharpe Ratio helps you pick <strong>quality over flash<\/strong> &#8212; consistent, predictable performers over wild returns. If steadiness is what you are after in the first place, <a href=\"https:\/\/navia.co.in\/blog\/what-is-a-fixed-income-mutual-fund\/?utm_source=blog&amp;utm_medium=internal_link&amp;utm_campaign=mutual_funds\">fixed income mutual funds<\/a> sit at the low-volatility end of this spectrum.<\/p>\n\n\n\n<h2 class=\"wp-block-heading has-text-color has-link-color wp-elements-5\" id=\"aioseo-sharpe-ratio-formula-refresher\" style=\"color:#023368\">Sharpe Ratio Formula Refresher<\/h2>\n\n\n\n<figure class=\"wp-block-image size-full is-resized\"><img fetchpriority=\"high\" decoding=\"async\" width=\"613\" height=\"91\" src=\"https:\/\/navia.co.in\/blog\/wp-content\/uploads\/2025\/06\/WhatsApp-Image-2025-06-23-at-11.36.19-1.jpeg\" alt=\"Sharpe Ratio formula used to calculate risk-adjusted return\" class=\"wp-image-10965\" style=\"width:731px;height:auto;max-width:100%\" srcset=\"https:\/\/navia.co.in\/blog\/wp-content\/uploads\/2025\/06\/WhatsApp-Image-2025-06-23-at-11.36.19-1.jpeg 613w, https:\/\/navia.co.in\/blog\/wp-content\/uploads\/2025\/06\/WhatsApp-Image-2025-06-23-at-11.36.19-1-300x45.jpeg 300w, https:\/\/navia.co.in\/blog\/wp-content\/uploads\/2025\/06\/WhatsApp-Image-2025-06-23-at-11.36.19-1-150x22.jpeg 150w\" sizes=\"(max-width: 613px) 100vw, 613px\" \/><\/figure>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"line-height:1.8;text-align:justify\">In our examples, <strong>we used 7% as the risk-free rate <\/strong>&#8212; similar to an Indian 1-year FD.<\/p>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"line-height:1.8;text-align:justify\">The Sharpe Ratio answers how much risk sat behind a return. A separate question is how to measure the return itself when you invested in instalments rather than in one go &#8212; that is what <a href=\"https:\/\/navia.co.in\/blog\/what-is-xirr-in-mutual-funds\/?utm_source=blog&amp;utm_medium=internal_link&amp;utm_campaign=mutual_funds\">XIRR in mutual funds<\/a> is for.<\/p>\n\n\n\n<h2 class=\"wp-block-heading has-text-color has-link-color wp-elements-6\" id=\"aioseo-bottom-line\" style=\"color:#023368\">Bottom Line<\/h2>\n\n\n\n<ul style=\"margin:1em 0;line-height:1.9\">\n<li style=\"margin-bottom:0.8em;line-height:1.8\">A high return means little unless you know <strong>how much risk<\/strong> was taken to earn it<\/li>\n<li style=\"margin-bottom:0.8em;line-height:1.8\">Use <strong>Sharpe Ratio <\/strong>to compare <a href=\"https:\/\/navia.co.in\/blog\/category\/investments\/\">investments<\/a> more meaningfully<\/li>\n<li style=\"margin-bottom:0.8em;line-height:1.8\">Look at this metric for <strong>mutual funds, stocks<\/strong>, and even <strong>derivatives<\/strong><\/li>\n<\/ul>\n\n\n\n<h3 style=\"color:#ec4d37\">Key Takeaways<\/h3>\n<ul style=\"margin:1em 0;line-height:1.9\">\n<li style=\"margin-bottom:0.8em;line-height:1.8\">Risk in investing is the volatility or uncertainty of returns, and it is measured by standard deviation.<\/li>\n<li style=\"margin-bottom:0.8em;line-height:1.8\">The Sharpe Ratio is return minus the risk-free rate, divided by standard deviation &#8212; it converts a raw return into a return per unit of risk.<\/li>\n<li style=\"margin-bottom:0.8em;line-height:1.8\">Every worked example here uses 7% as the risk-free rate, similar to an Indian 1-year FD.<\/li>\n<li style=\"margin-bottom:0.8em;line-height:1.8\">A higher headline return can still be the worse choice: Stock B at 15% scores 0.40 against Stock A at 12% scoring 0.50.<\/li>\n<li style=\"margin-bottom:0.8em;line-height:1.8\">The same holds for funds &#8212; Fund X at 10% scores 0.375 against Fund Y at 12% scoring 0.33.<\/li>\n<li style=\"margin-bottom:0.8em;line-height:1.8\">In derivatives the ratio needs care: the Nifty option scores higher at 0.66, but carries greater capital loss risk and requires skill.<\/li>\n<\/ul>\n\n\n\n<p class=\"has-text-align-center wp-block-paragraph\"><strong>Do You Find This Interesting?<\/strong><\/p>\n\n\n\n<div class=\"wp-block-group is-nowrap is-layout-flex wp-container-core-group-is-layout-8f761849 wp-block-group-is-layout-flex\">\n<p class=\"wp-block-paragraph\">We&#8217;d Love to Hear from you-<\/p>\n\n\n\n<figure class=\"wp-block-image size-full\"><a href=\"https:\/\/form.typeform.com\/to\/bpQ8ZlDc\"><img decoding=\"async\" width=\"300\" height=\"64\" src=\"https:\/\/navia.co.in\/blog\/wp-content\/uploads\/2025\/02\/Yes-No-Button-1.png\" alt=\"feedback yes or no button\" class=\"wp-image-8901\" style=\"max-width:100%;height:auto\" srcset=\"https:\/\/navia.co.in\/blog\/wp-content\/uploads\/2025\/02\/Yes-No-Button-1.png 300w, https:\/\/navia.co.in\/blog\/wp-content\/uploads\/2025\/02\/Yes-No-Button-1-150x32.png 150w\" sizes=\"(max-width: 300px) 100vw, 300px\" \/><\/a><\/figure>\n<\/div>\n\n\n\n<p class=\"wp-block-paragraph\" style=\"font-size:13px;line-height:1.6;color:#777\"><strong>DISCLAIMER: Investments in the securities market are subject to market risks, read all the related documents carefully before investing. The securities quoted are exemplary and are not recommendatory. Brokerage will not exceed the SEBI prescribed limit. Full disclaimer:&nbsp;<a href=\"https:\/\/bit.ly\/naviadisclaimer\">https:\/\/bit.ly\/naviadisclaimer<\/a>.<\/strong><\/p>\n","protected":false},"excerpt":{"rendered":"<p>&#128161; Quick AnswerA risk-adjusted return shows how much return an investment produced for each unit of risk taken. Risk is the volatility of returns, measured by standard deviation. The Sharpe Ratio is return minus the risk-free rate, divided by standard deviation &#8212; a higher ratio means more return per unit of risk. What is Risk [&hellip;]<\/p>\n","protected":false},"author":1,"featured_media":10975,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"ub_ctt_via":"","_jetpack_newsletter_access":"","_jetpack_dont_email_post_to_subs":false,"_jetpack_newsletter_tier_id":0,"_jetpack_memberships_contains_paywalled_content":false,"_jetpack_feature_clip_id":0,"_jetpack_memberships_contains_paid_content":false,"footnotes":"","jetpack_post_was_ever_published":false},"categories":[2],"tags":[23,1033,121,424],"class_list":["post-10954","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-investments","tag-mutual-funds","tag-portfolio-management","tag-risk-management-strategies","tag-risk-adjusted-returns"],"aioseo_notices":[],"featured_image_src":"https:\/\/navia.co.in\/blog\/wp-content\/uploads\/2025\/06\/A-Simple-Guide-to-Risk-Adjusted-Returns-with-a-7-Risk-Free-Rate.png","author_info":{"display_name":"Navia Markets","author_link":"https:\/\/navia.co.in\/blog\/author\/tradeplusonline\/"},"jetpack_featured_media_url":"https:\/\/navia.co.in\/blog\/wp-content\/uploads\/2025\/06\/A-Simple-Guide-to-Risk-Adjusted-Returns-with-a-7-Risk-Free-Rate.png","jetpack_sharing_enabled":true,"_links":{"self":[{"href":"https:\/\/navia.co.in\/blog\/wp-json\/wp\/v2\/posts\/10954","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/navia.co.in\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/navia.co.in\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/navia.co.in\/blog\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/navia.co.in\/blog\/wp-json\/wp\/v2\/comments?post=10954"}],"version-history":[{"count":31,"href":"https:\/\/navia.co.in\/blog\/wp-json\/wp\/v2\/posts\/10954\/revisions"}],"predecessor-version":[{"id":18917,"href":"https:\/\/navia.co.in\/blog\/wp-json\/wp\/v2\/posts\/10954\/revisions\/18917"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/navia.co.in\/blog\/wp-json\/wp\/v2\/media\/10975"}],"wp:attachment":[{"href":"https:\/\/navia.co.in\/blog\/wp-json\/wp\/v2\/media?parent=10954"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/navia.co.in\/blog\/wp-json\/wp\/v2\/categories?post=10954"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/navia.co.in\/blog\/wp-json\/wp\/v2\/tags?post=10954"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}