During periods of heightened stock market volatility, some investors believe “this time around is worse than before.” Sometimes that’s true. For example, 2008-2009 was a volatile period for stocks, but the recent past has been volatile, too. Since 2008 we have had a handful of scary corrections, including a big one between 2015 and 2016. 2017 was a somewhat steady year, but 2018 was more erratic. Markets go through periods of high and low volatility regularly. It’s normal! And higher volatility isn’t necessarily a bad thing. Like so many things, volatility cuts both ways and you generally won’t hear much handwringing when it cuts to the upside.

Volatility Isn’t Always Negative

Volatility (both positive and negative) can be measured by the standard deviation of returns. Standard deviation is a measure of how much a statistic deviates from its average. Lower standard deviations mean the results didn’t vary much, and higher ones mean there was more variability.

So which year do you think was more volatile? 2008 or 2009? Most people wrongly assume stocks were more volatile in 2008. However, 2008’s standard deviation was 20.1% and 2009’s was 21.3%.[i] 2009 was more volatile—although just by a hair.

Big down stock market years can hurt and leave a lasting effect on the psyche of many investors. In many cases, those bad years are followed by positive subsequent rebounds. Though you may not believe it, these rebound years can sometimes be more volatile than the big down years before them.

The S&P 500’s annualized standard deviation from 1926 through 2017 was 15.2%.[ii] But that includes some outliers and steeply volatile years, which can skew the average. Over that same period, the median standard deviation was 12.5%. So, both 2008 and 2009 were well above the median but with wildly different results. And don’t forget, standard deviation is inherently backward looking. While it is a useful tool, it can’t tell you about how volatile markets will be moving forward, just what has happened in the past. Past data can be helpful when identifying the probability of outcomes. However, volatility is not a forecasting tool.

You don’t need much data to realize stocks can be quite volatile. And stock market volatility data is itself volatile. Some years, market volatility may be above average, and in others, it may be less than average.

More importantly, stocks can rise or fall in times of either high or low volatility. There’s no predictive pattern.

Volatility Isn’t Predictive

Some of the most volatile years in history don’t end up hugely up or down. Volatility can be persistent from day to day, week to week or month to month. Despite some of those short-term swings, the annual returns may still end up middling or even near average.

The most volatile year in history was 1932—when the standard deviation was 65.4%.[iii] But stocks were down just 8.9% for the year. Not great, but not a tragedy either. All it tells you is monthly returns were wildly variable that year.

The second most volatile year ever was 1933. Standard deviation was 53.9% but stocks rose a massive 52.9%.[iv] That starts to make sense when you understand that volatility is how much something deviates from its average—not some big bad thing that measures stock market downside.

Big volatility also doesn’t mean stocks must necessarily fall. In 1998, standard deviation was 20.6%. Way above average, yet stocks were up 28.6%.[v] In 2010, standard deviation was 18.4% and stocks rose 15.1%.[vi] Yes, big volatility has happened in down years. But not always and not enough to make you automatically fear above-average volatility. And the reverse is true. Lower volatility doesn’t automatically mean big returns. In 1977, standard deviation was a below-average 9.0% and stocks fell –7.4%—returns nearly identical to 1932’s return but with much less volatility.[vii]

Put differently, there is nothing about any level of volatility that is predictive. Rather, standard deviation is descriptive of the past—and the past doesn’t dictate the future.

Don’t Blame the Speculators

One popular scapegoat for market volatility is speculators. They aren’t the enemy. In fact, most stock investors are, in some way, speculators! Even if investors hold stocks for long periods—a year or 10 or 50—when they invest, they speculate those stocks will do something over that timeframe.

But more often, people mean futures traders when talking about speculators. Futures are agreements to trade something at a specified price in the future—oil, pork bellies, stocks, whatever. Futures are basically bets on future prices. Speculators are usually betting on future prices and don’t want or need the underlying thing they’re betting on.

When oil prices fluctuate, headlines commonly blame speculators. But speculators don’t work together as one collaborative group. Some speculators believe prices will improve and others believe the opposite. They aren’t financial geniuses who only profit at our expense. Like anyone, they can and do lose money at times.

Futures also have hugely important uses by businesses. Airlines often buy fuel futures to help smooth those costs for travelers. Farmers buy futures to manage their margins too. Many of their costs and revenues are hugely dependent on stable prices—something futures can help them achieve.

But futures—and speculators—are significant in capital markets. They help increase liquidity and transparency. People often overlook the fact that having more liquidity and more transactions happening can actually reduce volatility.

Remember this next time someone recommends banning speculators. Banning them could potentially increase volatility. So thank a speculator, and don’t fear volatility. It’s not predictive; you can’t get upside volatility without the downside volatility, and over time, upside volatility tends to happen more often. Embrace it.

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Investing in stock markets involves the risk of loss and there is no guarantee that all or any capital invested will be repaid. Past performance is no guarantee of future returns. International currency fluctuations may result in a higher or lower investment return. This document constitutes the general views of Fisher Investments and should not be regarded as personalized investment or tax advice or as a representation of its performance or that of its clients. No assurances are made that Fisher Investments will continue to hold these views, which may change at any time based on new information, analysis or reconsideration. In addition, no assurances are made regarding the accuracy of any forecast made herein. Not all past forecasts have been, nor future forecasts will be, as accurate as any contained herein.

[i] Source: Global Financial Data, Inc., as of 12/31/2018. S&P 500 Total Return Index from 12/31/2007 to 12/31/2008 and from 12/31/2008 to 12/31/2009.

[ii] Source: Global Financial Data (GFD), Inc., as of 12/31/2018. S&P 500 Total Return Index from 12/31/1925 to 12/31/2017. The S&P 500 Total Return Index is based upon GFD calculations of total returns before 1971. These are estimates by GFD to calculate total returns for the S&P Composite before 1971 and are not official values. GFD used data from Cowles Commission and from S&P itself to calculate total returns for the S&P Composite using the S&P Composite Price Index and dividend yields through 1970, official monthly numbers from 1971 to 1987 and official daily data from 1988 on.

[iii] Source: Global Financial Data, Inc., as of 12/31/2018. S&P 500 Total Return Index from 12/31/1931 to 12/31/1932; see note ii.

[iv] Source: Global Financial Data, Inc., as of 12/31/2018. S&P 500 Total Return Index from 12/31/1932 to 12/31/1933; see note ii.

[v] Source: Global Financial Data, Inc., as of 12/31/2018. S&P 500 Total Return Index from 12/31/1997 to 12/31/1998.

[vi] Source: Global Financial Data, Inc., as of 12/31/2018. S&P 500 Total Return Index from 12/31/2009 to 12/31/2010.

[vii] Source: Global Financial Data, Inc., as of 12/31/2018. S&P 500 Total Return Index from 12/31/1976 to 12/31/1977; see note ii.

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