What Are Nosotros To Produce Amongst Sharpe Ratio?

I wrote several times earlier how useless Sharpe ratio is for certainly types of strategies: run across here too here. Not only is a high Sharpe ratio quite useless inward telling y'all what harm extreme events tin hand the axe produce to your equity, a low Sharpe ratio is besides quite useless inward telling y'all what spectacular attain your strategy mightiness savour inward the outcome of a catastrophe. I came across roughly other vivid trial of the latter category inward the best-selling mass "The Big Short", where the writer tells of the even of the fund director Mike Burry.

Mike Burry started buying credit default swaps inward 2005, essentially an insurance policy on mortgage-backed securities, betting that at that spot volition hold upward widespread defaults on mortgages. Of course, nosotros straightaway know how this even would plow out: Mike Burry made $750 i 1000 one thousand inward 2007 alone.  But at that spot was zip but hurting for the fund director too his investors inward 2005-2006, since they had to pay an annual premium of 8% of the portfolio.  Investors who measured the functioning of this strategy using Sharpe ratio, without knowing the details of the strategy itself, would hold upward quite justified to mean value that it was an beak disaster prior to 2007. And indeed, many of them lost no fourth dimension inward trying to describe out their investments.

So what are nosotros to produce amongst Sharpe ratio, amongst its inherent reliance on Gaussian distributions? Clearly, it is useful for measure high frequency strategies which y'all tin hand the axe count on to generate consistent returns every day, but which has express catastrophic risks. But it is less useful for measure statistical arbitrage strategies that concord positions over multiple days, since at that spot may good hold upward substantial hidden catastrophic risks inward these strategies that would non hold upward revealed yesteryear their rails tape too measure difference of returns alone. As for strategies that are designed to produce goodness from catastrophes, such equally Mike Burry's CDS purchases or Nassim Taleb's options purchases, it is completely useless. If I were to allocate my assets over dissimilar hedge funds, I would hold upward certainly to include roughly funds inward the get-go category to generate cash flows for my daily needs, equally good equally funds inward the final category to produce goodness from the infrequent black-swan events. As for the funds inward the oculus category, I am increasingly losing my enthusiasm.