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This is a supporting article for my articles, so that I can link it here, always a work in progress. Use Investopedia for a detailed understanding
Relative Strength Index (RSI) measures whether an asset is overbought or oversold by comparing recent gains and losses. A value above 70 suggests the asset might be overbought (potential sell signal), while a value below 30 indicates it might be oversold (potential buy signal). Higher RSI is usually bad as it signals an overextended market.
Value at Risk (VaR) estimates the potential loss in a portfolio over a given time frame with a certain confidence level. For example, a daily VaR of $1M at 95% confidence means there’s a 5% chance of losing more than $1M in a day. Lower is better since high VaR means high potential risk.
Conditional Value at Risk (CVaR), also called Expected Shortfall, goes a step beyond VaR by measuring the average loss in worst-case scenarios beyond the VaR threshold. Since it captures tail risks, lower is better as high CVaR means greater exposure to extreme losses.
Moving Average Convergence Divergence (MACD) is a trend-following indicator that compares two moving averages (short-term and long-term). When the MACD line crosses above the signal line, it’s a potential buy signal; when it crosses below, it’s a sell signal. Higher MACD isn’t inherently good or bad, but it signals strong momentum.
Volatility measures how much an asset’s price fluctuates over time. While traders love volatility for short-term opportunities, high volatility usually increases risk, making it a double-edged sword. Lower volatility is preferable for stable investments, but high volatility can mean profit opportunities in trading. Formula — Standard Deviation of Returns
Drawdown represents the peak-to-trough decline in portfolio value before a new peak is reached. A higher drawdown is bad because it means deeper losses, requiring larger gains to recover. A trader or fund with consistent low drawdowns is seen as more stable.
Alpha measures excess returns above the market benchmark, showing how much better (or worse) an investment performs relative to expectations. Higher alpha is always better, as it means the strategy is generating superior returns. alpha=portfolio return — market return
Beta measures an asset’s sensitivity to market movements. A beta of 1 means it moves with the market, greater than 1 means more volatility, and less than 1 means lower risk. Lower beta is better for stability, but higher beta can be useful for aggressive traders seeking big swings.
Sharpe Ratio evaluates risk-adjusted returns by dividing excess return by volatility. A higher Sharpe Ratio is better, as it means more returns per unit of risk taken. A ratio above 1 is considered good, above 2 is great, and above 3 is exceptional.
Calmar Ratio compares annualized returns to maximum drawdown. A higher Calmar Ratio is better, as it means the portfolio delivers strong returns with limited risk. A low Calmar Ratio suggests excessive drawdowns relative to returns.
The real challenge is knowing when and how to use them
Written with the help of ChatGPT.
English (US) ·