When an investor takes higher risk, ideally, he should get higher returns. The same holds true for your mutual fund manager
To evaluate whether the extra risk that a fund manager took has resulted in higher returns, look at the Sharpe Ratio
of the scheme
The Sharpe Ratio
is the risk-adjusted return of a portfolio. A fund with a higher Sharpe Ratio
is considered superior compared to its peers
If two funds have similar returns, opt for one with a higher Sharpe Ratio, as it shows that the scheme’s excess returns are due to smart investment decisions
Don't take a call on a scheme solely based on the Sharpe Ratio.
Use it to evaluate the fund with other performance ratios
In some cases, the Sharpe Ratio
can be misleading and give an incorrect picture, especially in funds that invest in options or warrants.