S&P 500 Index Sets New Volatility Record for Fourth Consecutive Day

When measuring volatility, there is a tendency to focus on historical volatility and implied volatility as the appropriate yardsticks. One looks backward and is a statistical calculation; the other looks forward and lets market participants estimate future volatility.

The VIX gets the bulk of the press, but as a measure of implied volatility, it tells you nothing about what has just happened.

Don Fishback and Adam Warner (Daily Options Report) have opined that historical volatility is as good or better a measure of volatility than implied volatility.

Depending on one’s purpose, I am inclined to agree. In fact, in addition to implied volatility and historical volatility (which is simply the standard deviation of the log of returns of a period of X days), I am a big fan of Average True Range, which is also known simply as ATR.

Developed by J. Welles Wilder and first made public in the classic New Concepts in Technical Trading Systems, ATR first calculates true range as the maximum of:

1. the difference between today’s high and low;
2. the difference between today’s high and the previous close;
3. the difference between today’s low and the previous close.

Average true range is simply the true range averaged over a standard lookback period (most often 14 days), traditionally using an exponential moving average, but sometimes using a simple moving average.

Now for the punch line, which is probably a couple of paragraphs too late: in each of the past four days, the S&P 500 index (SPX) has set new all-time highs in its 30 day historical volatility reading, as well as the simple moving average version of ATR. Further, if you normalize ATR by dividing it by the daily close of the SPX, the past four days have also seen new all-time highs in the normalized ATR.

So…the VIX may be pulling back a little, but backward looking measures of volatility such as historical volatility and ATR are continuing to establish new all-time highs.

Further reading:

• For a related post on volatility, try On Measuring Volatility
• For more on ATR, try Average True Range: What Is It and How Do I Use It? at Kevin’s Market Blog

Comments

[carey_jim:]

When physical systems get ready to explode, they wobble, vibrate and oscillate more and more intensely just before the explosion.

2008 Oct 03 11:27 AM