Sharper asset ranking from total drawdown durations

ABSTRACT

The total duration of drawdowns is shown to provide a moment-free, unbiased, efficient and robust estimator of Sharpe ratios both for Gaussian and heavy-tailed price returns. We then use this quantity to infer an analytic expression of the bias of moment-based Sharpe ratio estimators as a function of the return distribution tail exponent. The heterogeneity of tail exponents at any given time among assets implies that our new method yields significantly different asset rankings than those of moment-based methods, especially in periods large volatility. This is fully confirmed by using 20 years of historical data on 3449 liquid US equities.

KEYWORDS:

• Asset ranking
• Sharpe ratio
• drawdowns
• unbiased estimator
• heavy tails

Disclosure statement

No potential conflict of interest was reported by the author.

Notes

1. This precise value is the only one for which analytical computations seem workable. It also happens to be in line with the average tail exponent of US equities daily and intraday price returns (Jansen and De Vries 1991; Plerou et al. 1999; Bouchaud and Potters 2000; Longin 2005).