Some Thoughts on Volatility

“The stock market is a giant distraction to the business of investing.”

– John C. Bogle, the founder of Vanguard  (“The Little Book of Common Sense Investing:  The Only Way to Guarantee Your Fair Share of Stock Markt Returns”)

It’s no surprise that the markets have been crazy the last few months.  If it is news to you, then consider not reading any of this post as I am going to review some points that don’t pertain to you.  If you do know that the markets have been a little nutty, then please read, and maybe I can give you some perspective on why you might not want to read too much into the recent volatility.

In 2017, investors and traders were lulled to sleep with the market daily price changes.  There were no CNBC “Markets in Turmoil” segments at night time; we have already had a few so far this year.  It was great time to be an investor because the equity markets went up 20% without much volatility.

For this post, when I say volatility, I mean the volatility of daily price changes in the SPDR S&P 500 ETF (ticker: SPY).  We will break down the periods by quarter.  (i.e., 1Q17 means 1st quarter 2017)

Here some price stats for the SPY in 2017:

  • There were 251 trading days (excludes holidays and weekends)
  • From open (at 9:30 am) to close (4:00 pm), the mean or average return last year was 0.07%. The one deviation or swing around that average was .43% per day.  In other words, roughly 68% of the time, the market change from day to day was in a range between -.36% to .50%.
  • Furthermore, if you turned on the financial channel every day, 141 of the days or 56% of the time, you would have seen the markets in the green.  Green is good.

Here are some stats for the 1st quarter in 2018:

  • There were 61 trading days
  • From open (at 9:30 am) to close (4:00 pm), the mean or average return was -.013%. The one deviation or swing around that average was 1.26% per day.  In other words, roughly 68% of the time, the market change from day to day was in a range between -1.27% to 1.25%.
  • Furthermore, if you turned on the financial channel every day, 33 (54%) of the days you would have seen the markets in the green.

Stats – Last Five Quarters

2017 and 2018

The number of periods is straightforward, it is the number of days the market was open.

The number of up days was (as %) is the % of those days that had a positive return.

I highlighted 4Q 2017 and 1Q 2018 compare the different market environments from one quarter to the next.  The fourth quarter of last year was incredible.  Annualized volatility was 5.40%, and the annualized return was 23.80%.  The average daily return was .095%.  Last year was “not normal” from volatility; though, we do prefer the action much better than this year.

The table shows the number of 1.00% moves either up or down on a daily basis, by quarter. Summing all the 1.00% moves comes to 9.  So, 9 days out of 251 were either up or down higher than 1.00%.  That’s amazing.  Considering every financial professional told you that there would be a lot of volatility in 2017 because of the Trump presidency.

In the 1st quarter of ’18, there were 12 days above 1.00% and 11 days below 1.00%.  It is clear, we are not in the same market environment as 2017.  You can pick a narrative to describe the big moves, but that is just noise. There was plenty to worry about last year, though the market didn’t seem to care.

I highlight these 1.00% moves because when there are more significant swings in the major indices we tend to check our stocks or holdings in our portfolio more often.  More volatility means more trading, which means more money for the brokerage firms.  More time reading financial publications and newsletters.  More time logging into to view your watchlist.

For those who like looking at data visually, I created a line chart that tracks the daily moves for the 4 quarters in 2017 and 1st quarter 2018.  I kept the 2017 quarters in blue and made the line black for 1st quarter 2018.

daily price movements

A few observations:

  1. The first 16 days of each quarter look about the same, in fact, it seems that there were more up days in the 1st quarter 2018.
  2. You can see the large swings in price for 2018 from the 16th day on towards the end of the quarter.
  3. The price changes are “more volatile” in 2018 than the previous 4 quarters.

Reflecting on the past quarter

“Volatility is normal” is a common thing you will hear financial professionals say.  I say it.  But what does it really mean?  At what point does it become not normal.  There are low volatility years like 2017, and then there are high volatility years like 2008.  We say volatility is normal because we want to be aware that it happens, so we don’t get spooked and sell our investments because the market has been zigging and zagging more than we would like.

Though three months is the very short term, reflecting on this past quarter can help us become better long-term investors.  For investors that are not near retirement, the higher volatility allows you to potentially buy at a lower price.  For investors at all stages, higher volatility helps you figure out what type of investor you will be.   Maybe you realized that you cannot stomach the big swings in your portfolio and decide to accept investments that are less risky.  Higher risk doesn’t mean higher return, to me, it says the potential to make a lot of money or lose a lot of money.  Low volatility periods lull us into thinking we can take on more risk than we think.