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8/3/2019 Volatility - Senthil Kumar
http://slidepdf.com/reader/full/volatility-senthil-kumar 1/12
MEANING OF VOLATILITY
In finance, volatility is a measure for variation
of price of a financial instrument over time.
Historic volatility is derived from time series
of past market prices.
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In other words, volatility refers to the
amount of uncertainty or risk about the size
of changes in a security's value.
This means that the price of the security can
change dramatically over a short time period
in either direction.
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It is used to quantify the risk of the financial
instrument over the specified time period.
Volatility is normally expressed in annualized
terms, and it may either be an absolute number
($5) or a fraction of the mean (5%).
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TYPES Actual Historical: volatility which refers to the
volatility of a financial instrument over a specified
period but with the last observation on a date in the
past
Actual Future: volatility which refers to the volatilityof a financial instrument over a specified period
starting at the current time and ending at a future date
(normally the expiry date of an option).
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Current Implied Volatility :
which refers to the implied volatility observed
from current prices of the financial instrument
Future Implied Volatility :
which refers to the implied volatility observed
from future prices of the financial instruments.
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Volatility for investors
When certain cash flows from selling a security are
needed at a specific future date, higher volatility
means a greater chance of a shortfall.
Price volatility presents opportunities to buy assets
cheaply and sell when overpriced.
In today's markets, it is also possible to trade volatility
directly, through the use of derivative securities such
as o tions.
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Volatility versus direction
Volatility does not measure the direction of price
changes, merely their dispersion.
This is because when calculating standard deviation (or
variance), all differences are squared, so that negative
and positive differences are combined into one quantity.
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•For example, a lower volatility stock may have
an expected (average) return of 7%, with annual
volatility of 5%.
•This would indicate returns from approximately
negative 3% to positive 17% most of the time(19 times out of 20, or 95% via a two standard
deviation rule)
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Measures
There are several used measures of volatility, some
examples:
Range (maximun value - minimun value)
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V
o
l
a
t
h
"
. •Volatility is a poor measure of risk, as explained
by Peter Carr, "it is only a good measure of risk if
you feel that being rich then being poor is the
same as being poor then rich".
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