Question

What is stock volatility? How can it be estimating

Answer 1

Volatility is also referred as change or uncertainty of the stock. The price behavior is not certain and to study that uncertainty we can calculate volatility of stock.

Volatility is also called standard deviation. Volatility is value which indicates that the deviation in returns, the deviation is standardized with statistical formula so as that we can have a standard term to study deviation of return within the given time frame.

Volatility behavior or calculated standard deviation helps in estimating the next change in price with some accuracy. It is not flawless but with some probability we can guess price expected in next period by using various models (Black-Scholes, Binomial trees etc…).

Volatility can be calculated by following below steps:

Ø Plot returns against time or period

Ø Take average of the returns

Ø Take difference of each return at particular time against calculated average

Ø Take square of the above difference and divide it with total number of returns

Ø Sum the squared difference (of above)

Ø Take the square root of the sum of the squared difference i.e. Standard deviation

Example:

Year	Returns	(Returns - Average)^2
2016	23.00%	0.48005102%
2015	14.00%	0.04290816%
2014	34.00%	3.21433673%
2013	8.00%	0.65147959%
2012	21.00%	0.24290816%
2011	-12.50%	8.16326531%
2010	25.00%	0.79719388%
Total	112.500000%	13.59214286%

n=7 (seven observations)           

             

Average = X = Total / n  

X = 112.5%/7    

X =         16.0714286%

Standard Deviation = ((Sum of (Return pertaining to each year - Average)^2)/n)^0.5                                    

Standard Deviation =(0.135921428571429/7)^0.5                                        

Standard Deviation =      0.139346141                   

Standard Deviation =      13.93%