What Is Sortino Ratio?
The Sortino Ratio is a modification of the Sharpe Ratio that only penalizes downside volatility (returns below a minimum acceptable return, typically 0%) rather than all volatility. Formula: Sortino = (Return - MAR) / Downside Deviation. This makes it more appropriate for strategies with asymmetric returns, where upside volatility should be rewarded, not penalized.
How Sortino Ratio Works
The Sharpe Ratio penalizes a month where you gained 30% the same as one where you lost 30% — both contribute equally to standard deviation. The Sortino Ratio recognizes that upside volatility is desirable. A strategy with occasional large wins (positive skew, common in crypto trend following) will have a better Sortino Ratio than Sharpe Ratio.
Why It Matters for Traders
For crypto strategies, the Sortino Ratio is generally a better metric than Sharpe because crypto returns are highly skewed — bull markets produce outsized gains that inflate standard deviation. A trend-following crypto strategy might have a mediocre Sharpe (penalized by big winning months) but an excellent Sortino (rewarded for keeping losses small). Use Sortino alongside Sharpe for a complete risk-adjusted picture.
