An Historical Perspective on Market Volatility

On their new blog, Fama and French note the following concerning market volatility (see “Q&A: The Value of Historical Data”):

“Large declines in stock prices occur several times during the last 80 years. The nearby plot of the volatility of daily market returns shows that the current high volatility also has precedents in 1987 and in the 1930s, and to a lesser extent in 2000-2002. Periods of business uncertainty (for example, the onset of a recession) are typically associated with stock price declines and increases in volatility.”

Here’s the graph which goes along with their verbal description:

Intra-Month Daily Volatility, S&P 500, July 1926 to October 2008

One can obtain a rough estimate of annualized volatility from this graph by multiplying daily volatility by 19.1, which is the square root of the number of days (365) in a year. Thus the October 1929, October 1987, and October 2008 spikes correspond to annualized volatility of 86% to 95%. Putting this into perspective, the long run average annualized volatility for the S&P 500 since 1926 has been more like 20%.

See also my earlier posts on market volatility; specifically, “Frequency Diagram for the Implied Volatility Index, January 2, 1990 – October 10, 2008” and “Volatility“.

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