volatility

finance

Written byDoug Ashburn

Fact-checked byThe Editors of Encyclopaedia Britannica

Like any security, the S&P 500 sees periods of high and low volatility.

Source: Barchart.com. For educational purposes only.

Volatility is a measure of the frequency and magnitude of changes in the price of a stock, exchange-traded fund (ETF), cryptocurrency, or other security. The larger and more frequent the price changes, the more volatile the underlying security. Volatility is of particular importance in the world of options trading, as it’s one of the key components of Black-Scholes-Merton and other option valuation models.

In the options world, volatility is measured in two ways:

Historical volatility (HV) is backward looking and measures the magnitude of the actual fluctuations of an underlying security over a specific period of time. A common HV look-back period is one year, which traders call the “52-week HV.”
Implied volatility (IV) is forward looking and estimates the magnitude of fluctuations over a specific future period. IV looks at the current prices of listed options on a stock, ETF, index, or other security and runs them through a valuation model to see what level of volatility is “implied” by those current prices.

Historical volatility is generally more stable over time. Implied volatility is in constant motion as it responds to changes in market sentiment, company earnings, news events, and other factors.

The Cboe Volatility Index (VIX), aka “the fear gauge,” is the most widely followed and cited volatility gauge for the U.S. stock market. The VIX formula is based on options on the S&P 500 index that expire in a little over three weeks and a little under five weeks, which effectively means that on any given day, the VIX reflects the market’s 30-day implied volatility.

This article was most recently revised and updated by Doug Ashburn