Bitcoin has fallen 28% this year, and its 365-day Sharpe Ratio has plunged to nearly minus 20, signaling extremely poor risk-adjusted returns.
A Sharpe Ratio that negative means investors would have been better off in risk-free assets like 10-year U.S. Treasuries, which currently yield about 4.45%.
Similarly depressed Sharpe Ratio readings in 2015, 2019 and 2022 aligned with bear-market bottoms.
Bitcoin BTC$63,487.02 has dropped by 28% so far this year, a brutal slide that looks even worse through the lens of the Sharpe Ratio, a metric professional investors use to determine what slice of their portfolio should be allocated to a specific asset.
The Sharpe Ratio is the gold standard for measuring risk-adjusted returns and was developed by Nobel Prize-winning economist William F. Sharpe.
Bitcoin's 365-day rolling Sharpe Ratio plummeted to -21 at the end of June, the lowest since late 2022, according to data source CryptoQuant. It was recently hovering just short of -20.
This deeply negative reading indicates that a bitcoin investor over the period took on extra market volatility while generating a return far worse than they could have earned on a risk-free investment, such as the 10-year U.S. Treasury note. The benchmark bond recently offered a yield of around 4.45%.
BTC's Sharpe Ratio slides to nearly -20. (CryptoQuant, Joao Wedson)
The Sharpe Ratio is calculated by subtracting the risk-free rate from the asset's total return over a specific period, then dividing the result by the asset's standard deviation (a measure of price volatility). A positive ratio means investors are being rewarded for taking the volatility risk. A negative ratio suggests they are being punished.
Professional investors don't just look at a coin's price relative to its long-term average to assess whether it's cheap. They use metrics such as the Sharpe Ratio to determine position sizing.
Imagine two coins: A and B. Coin A has fallen 30% from its recent high, but in a fairly steady way. Coin B has also fallen 30%, but its price is all over the place, jumping up and down by big percentages every day. Looking only at the drop from the high, both coins look equally “cheap.”
A professional investor would look beyond the price drop and consider the risk-adjusted return.
In this case, A’s smoother price path might give it a Sharpe Ratio of, say, 1.5, while Coin B’s wild swings leave it with a Sharpe Ratio of just 0.5. So even though both have the same 30% drop, Coin A clearly outperforms per unit of risk, making it the more attractive choice for sizing a position.
Historical context
While a -20 Sharpe Ratio reflects a year of poor volatility-adjusted performance, it also lights up a rare bottoming signal for the token's price.
Historically, every time the yearly risk-adjusted return has reached this level of "unattractiveness," it has marked the point of maximum seller exhaustion.
Similar readings coincided at or around bear market bottoms in 2015, 2019 and 2022, presaged bullish trend reversals and major price gains.
