Volatility

The more volatile the underlying asset, the greater the probability that the price of this asset will reach extreme price levels - favorable or unfavorable -. More risk means better potential return: this is the risk premium. The volatility of stocks is on average between 20 and 50%.

Volatility is expressed as a percentage. To simplify, and without taking into account the time horizon, if the volatility of an asset is 5%, the price will vary between -5% and +5% of the average price of the underlying.

There are two ways to measure volatility:

• Historical volatility is based on the observation of past data and corresponds to the calculation of the standard deviation - the measure of the dispersion of values ​​- of daily variations.
• Implied volatility is based on the prices of derivatives of the financial asset. It represents the anticipations made by traders about future variations. Three factors influence this volatility: the price of the option, its maturity and the level of the risk-free rate. Its calculation is based on the Black & Scholes model and the Newton-Raphson algorithm.