Sharpe’s ratio and Anxiety

I have been learning about investments, stock market and human behaviour lately. For anyone who is interested in growing their wealth there are a lot of videos on YouTube nowadays. In Fact it is filled with financial advice that you might find it hard to stick to one strategy. Good luck with that! But as a general advice I would say don't forget basics when you learn advanced mathematics of financial models. When you learn Sharpe’s ratios and variances and Betas you might forget that the values are not in the stock or in business but in human minds. If you forget this you might just become a number man and be fooled by the system at some point. If you know this, at least you will know why you were fooled at some point, by these financial advisers. But here is an interesting fact. Let's look at sharpe’s ratio to understand life.

Sharpe's ratio definition

Sharpe’s ratio is a mathematical model used to describe the risk adjusted return for an investment. This is a fundamental concept. Any return is associated with a risk. When you have two investments with the same return for a period of time, the pathway they have taken can be markedly different on a plot. Consider the following two graphs. To select the good investment we need to quantify the return to the fluctuations as a ratio. As these fluctuations show how risky the return is. More fluctuations will have less sharpe’s ratio. If you understand the concept upto this point it's good. I will give the formula for sharpe’s ratio below for the completeness of the article.

Here’s the graph showing two stocks with equal final returns but different Sharpe ratios:

• Stock A (High Sharpe Ratio): Has a smoother, more stable growth curve due to lower volatility.

• Stock B (Low Sharpe Ratio): Shows a choppier, more volatile path to the same end value.

Sharpe's ratio formula

From sharpe's ratio to Anxiety

But it made me realise why we behave as we are in society. Consider my article on riding waves of life. Here I discussed how people fluctuate differently although it is the same wave. Consider two people and above graphs show how they behave to external stimuli. Some show a steady response. They hardly change their course of life to external factors. They appear like good investments. Others behave like Apple stock! They fluctuate to stimuli. Their values skyrocket during the day and dip down at night. One day feels good to be alive and the other day is Anxiety prone. But when you consider a period of time the outcome may appear the same. The average return may be equal or even higher than the steady risk free ride.

Sharpe's ratio to careers

We can expand this idea to individual careers. Consider an actor to a clerk in a private company. The sharpe’s ratio for an Acting career is going to be higher. It's risky. You are going to have parties and shit that makes you feel high, like Mike Posner sang. Next day you might wake up and commit suicide due to stress and boredom without knowing what to do, like his friend Avicci. So for some of the folk who act, risk adjusted return (Sharpe's ratio) can even be less than a clerk!. But it varies depending on individual characteristics. We can consider happiness, fulfillment or containment as the return of life, anxiety and stress the risk we take. An engineer on the other hand has a better chance of having good returns for the risk than a clerk. That is why everyone wants to be an engineer rather than a clerk. 

Optimal Sharpe’s ratio for life.

But as you can see the optimal sharpe’s ratio doesn't come when we do the work with the highest return. It depends also on our internal characteristics of how much we fluctuate to external stimuli. Or the Anxiety component or the risk. As you can see it's variable with time also. When you progress in your career you might take more responsibilities to make a higher return. You might get promoted in your job. From the outset this might feel like the right thing to do. But it might limit your freedom and increase Anxiety to a level that risk adjusted return is far less than the previous. Nowonder why people are stressed when they become CEO's.

Unlimited life.

How to achieve Limitless happiness?

Now let's look at an interesting phenomenon. Consider a life with zero risk. You do not take any risk. Sometimes we meet these people, in corners of PUBs, rural villages, in churches and In libraries. What do you think about their sharps ratio? When the risk is near zero, the sharpe’s ratio can be very high. Which means proportionately the happiness they feel can be overwhelming. Even having lunch can generate more relative happiness than getting a seven or eight figure bonus. Because the risk adjusted return is better for someone who takes minimal risk.

I am sure you had a great deal of thinking and ideas by this time. Why don't you comment on a few and we can have a discussion for aiming a quality life with better sharpe’s ratios and less anxiety?