The financial media has been filled with headlines about market volatility. From one perspective, this may make sense, as the previous quarter saw 19 trading days experience market moves of more than 2 percent, compared with just one such day the previous quarter.
Based on my conversations with both investors and advisors alike, the perception is that markets have certainly become more volatile. The question is: “Does the historical evidence match up as well?” To find the answer, we go to our trusty videotape.
For the period 1927-1999, the annual standard deviation (measure of volatility) of the S&P 500 Index was 20.3 percent. From 2000 through 2010, the annual standard deviation was a virtually identical 20.5 percent.
Perhaps if we look at the data on a quarterly basis, we’ll find more volatility. The quarterly standard deviation of the S&P 500 prior to 2000 was 11.7 percent. Since then, it has been 9.0 percent — volatility prior to 2000 was 30 percent higher.
So let’s try looking at the data on a monthly basis. Prior to 2000, the monthly standard deviation was 5.7 percent. Since then it has been just 4.7 percent — volatility prior to 2000 was more than 20 percent higher.
Small-Cap Stocks
Since we can’t find the explanation in the large-cap stocks of the S&P 500, perhaps we can find it in small-cap stocks. From 1926 through 1999, the annual standard deviation of the CRSP 6-10 Index (which represents small-cap stocks) was 31.2 percent. For the period 2000 through 2010, the annual standard deviation was 28.7 percent. The annual volatility of small caps was 9 percent more prior to 2000 than it was after. On a quarterly basis, the standard deviation was 19.7 percent prior to 2000 and just 12.9 percent from 2000 through June 2011. Prior to 2000, the quarterly volatility was 53 percent higher. On monthly basis the standard deviation prior to 2000 was 8.1 percent. Since then it was 6.7 percent. Prior to 2000 the monthly volatility was more than 20 higher than it has been since.
International Markets
Perhaps if we look at the volatility of international markets, we’ll find the explanation for the perception that the equity markets have been more volatile. From 1970-99, the annual standard deviation of the MSCI EAFE Index was 20.6 percent. From 2000 through 2010, the annualized standard deviation has been a virtually identical 20.7 percent. So that probably isn’t the source of the perception either, though we note that the monthly and quarterly volatility of the MSCI EAFE was 8 percent and 17 percent higher, respectively, since 2000.
Emerging Markets
Stretching the case, we can also look at emerging markets. Here we do find a relatively small increase in volatility, not the much greater increase the media and the “experts” have portrayed. On annual basis, the standard deviation of returns was 36.7 percent from 1988 through 1999, and 38.3 percent from 2000 through 2010, an increase of just 4 percent. On quarterly basis (through September 2011), the standard deviation increased from 13.6 percent to 14.1 percent, an increase of 4 percent. On monthly basis, the standard deviation increased from 6.9 percent to 7.1 percent, an increase of just 3 percent. These small increases almost assuredly wouldn’t have been noticed by most investors, and thus can’t explain why there’s this perception of greatly increased volatility.
Since I don’t have access to the daily data, I can’t rule the possibility that the perception of higher volatility is caused by the markets being more volatile on a daily basis. But investing for the long run while paying attention to the market’s daily noise is (as Alan Abelson noted) like a man walking up a big hill with a yo-yo and keeping his eyes fixed on the yo-yo instead of the hill. The bottom line is that the media needs to create noise to get you to pay attention, even if paying attention is bad for both your stomach and your investment results.
Photo courtesy of Katrina.Tuliao on Flickr.
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