Volatility is a statistical tool that is used to measure the degree of dispersion of the of the return from the mean position. Volatility can be measured by various methods. These include:
- beta coefficients
- option pricing models
- standard deviations of returns
Volatility helps in understanding the risk associated with the magnitude of changes in a security's value.
In statistics, volatility can be calculated using the below process:
- calculate the mean of the dataset provided.
- From this number (mean value), subtract each number in the dataset from the mean obtained to achieve the deviation.
- For removing any negative number, square each number (variation).
- Now, add all these numbers and then divide the sum obtained by the number of elements in the dataset.
- Find the square root of this number, which is called the standard deviation and measures risk.
Example explained using excel: