Moment-Free Sharpe Ratio Estimation from Total Drawdown Durations

15 Pages Posted: 8 May 2015 Last revised: 27 Oct 2015

See all articles by Damien Challet

Damien Challet

CentraleSupélec; Encelade Capital SA

Date Written: July 10, 2015

Abstract

The total duration of drawdowns is shown to be an efficient and robust estimator of Sharpe ratios. Its properties are distribution-dependent: the expected total drawdown duration is smaller for heavy-tailed returns than for Gaussian ones. As a consequence, in leptokurtic market conditions, the new estimator yields smaller Sharpe ratios than moment-based estimators, which implies that the standard estimator overestimates the information content of prices when the return distribution has heavy tails. Accordingly, using the standard estimator for taking trend-following decisions enhances large price fluctuations.

Keywords: Sharpe ratio, drawdown total duration, robust estimation, efficiency, price records

JEL Classification: C13, C14

Suggested Citation

Challet, Damien, Moment-Free Sharpe Ratio Estimation from Total Drawdown Durations (July 10, 2015). Available at SSRN: https://ssrn.com/abstract=2603682 or http://dx.doi.org/10.2139/ssrn.2603682

Damien Challet (Contact Author)

CentraleSupélec ( email )

Labo MICS
3, rue Joliot-Curie
Gif-sur-Yvette, 91192
France

Encelade Capital SA ( email )

Chemin du Bochet 8
Sulpice, 1025
Switzerland

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