A Practical Guide to Forecasting Financial Market Volatility
Chapter One
Volatility Definition and
Estimation
1.1 WHAT IS VOLATILITY?
It is useful to start with an explanation of what volatility is, at least
for the purpose of clarifying the scope of this book. Volatility refers
to the spread of all likely outcomes of an uncertain variable. Typically,
in financial markets, we are often concerned with the spread of asset
returns. Statistically, volatility is often measured as the sample standard
deviation
[MATHEMATICAL EXPRESSION NOT REPRODUCIBLE IN ASCII] (1.1)
where [r.sub.t] is the return on day t, and [micro] is the average return over the T-day
period.
Sometimes, variance, [[sigma].sup.2], is used also as a volatility measure. Since
variance is simply the square of standard deviation, it makes no difference
whichever measure we use when we compare the volatility of two
assets. However, variance is much less stable and less desirable than
standard deviation as an object for computer estimation and volatility
forecast evaluation. Moreover standard deviation has the same unit of
measure as the mean, i.e. if the mean is in doll ... read full excerpt from A Practical Guide to Forecasting Financial Market Volatility ebook
