It seems investors, media, Hedge Fund databases, etc place emphasis in ranking/assessing hedge funds via volatility measures: St ddev, sharpe ratio, sortino ratio, etc. I wonder if this is not a short-sighted approach. Personally I would accept a high volatility level for high annualized returns. So my question is how do you strike a balance between "reasonable" volatility and high returns. What's a good measure of a volatility/return balance? What max drawdown would you accept for annual returns in excess of 40%? What max mthly loss would you accept for high annual returns? There are many more questions, but I guess the theme has been made clear. Please share your thoughts. Thanks!

Sharpe ratio is the metric to use, it captures returns and volatilty, 2 funds with the exact same strategy but different leverage, should have the same sharpe ratio. (One earns twice as much but is twice as volatile.)

Sortino: measures returns versus downside volatility, some funds have very volatile returns, but they are mostly upwardly (is that a word) volatile, which is a good thing. Sortino is same as sharpe but only measures downside volatility. Max drawdown I would accept for 40%+ returns? 25% measured monthly. Max monthly loss is kind of redundant, after saying my max acceptable drawdown is 25%, but I guess it would be 10% - 15%, I would be uncomforable with >20% loss, but if it was in the middle of a huge positve move in my equity curve it would be acceptable. 5yr

Thanks 5yr for sharing your views. it seems evryone focuses on LOW VOLATILITY but wants high returns. My opinon is that most low volatility strategies have low returns and when they don't they are probaly short vol strategies susceptible to surprise sharp drawdowns. So as an investor I would be more wary of low vol/high return strategies than high vol/high retrn strategies.

A quote from Barton Biggs new book Hedgehogging: summarizes very concisely this debate; "As an investor in hedge funds, what would you rather have over five years? A very choppy 20% to 25% compound or a steady 10% to 12%?" This is the question! Your thoughts?

looking at sharpe, sotino is actually a longer term approach. volatility is extremely important because who cares if you have a annualized return of 100% when the volatility is 200%? so the ratios put everything into perspective - measures the return per unit risk. thus the best strategy of course is the one that returns the highest return for a low risk, ie a high sharpe or sortino ratio

everything depends on the sharpe ratio, and how long it was measured. the industry standard is a 3 year sharpe measured by monthly returns. i've seen people measuring sharpe over 1 year, etc. it gives really distorted results. anyway, in answer to your question: lets compare these 2 strategies: 10% return, 10% volatility 20% return, 20% volatility the asnwer is that they the are the same. because if you leverage up the 10% return strategy, you get the other strategy. no coincidence that their sharpe ratios are the same too (well, very similar).