Sortino proposed the downside deviation as an alternative that better models the risk preferences of most investors. assumes that all investors, from retirees to hedge fund managers, have the same definition of riskĭownside Deviation as a Superior Risk Measure.This is not valid for exotic investments techniques like options or short selling. assumes that the returns are symmetric.Most investors only consider variation below an acceptable return as “bad” risk This means that returns that spike heavily above the mean are considered bad.This behavior does not, however, model the risk preferences of most investors.

includes both variation above the mean below the mean.But standard deviation has several shortcomings as a proxy for risk. Standard deviation describes the variability around the mean of an investment’s returns, with higher values indicating an investment whose returns have a large spread and hence a greater risk. Standard deviation is commonly used as a measure of investment risk, and is typically employed when calculating performance benchmarks like the Sharpe Ratio. It also discusses why downside deviation is a better risk measure than the standard deviation. This article provides an Excel spreadsheet to calculate downside deviation (including VBA and a matrix formula).