A simple, rough-and-ready measure of market volatility can be arrived at by calculating the variation in the index as a percentage of the index’s mid-point over a specific period.
MUMBAI: If you think the market’s mood swings in February and March so far have been bad, consider this: things were worse last year in May-June, and in 2000 (the year of the dotcom bust), and in 1992 (when Harshad Mehta was having a ball with bankers’ money).
Thus, even as every market maven worth his salt is predicting a year of high volatility in the indices, a DNA Money survey of volatile months shows that the markets this year have been less volatile than they could have been.
A simple, rough-and-ready measure of market volatility can be arrived at by calculating the variation in the index as a percentage of the index’s mid-point over a specific period. For example, the Sensex’s March, 1992, high was 4,318.95 and its low was 2,883.93. The difference between these was 1,435.02.
Taking the mid-point of the high and low for the month (3,601.44) as the base on which to calculate the volatility, one can see that the market’s swing was nearly 40% from its mid-point in March, 1992 (1,432.05/3,601.44) x 100, which is equal to 39.85%).
As against March, 1992’s 39.85%, the Sensex saw a 24.29% swing in March, 2001 (tech meltdown) and 25.28% in May, 2006. Compared to these, the volatility of 13.97% in February, 2007, and 7.34% in March sounds almost nominal.
“The general belief is that volatility is the highest in periods when the market is almost near and moving towards its top, or when it’s on a hasty move down from the top,” said Deepak Mohoni, managing director of trendwatchindia.com.
“When one’s looking at volatility on the basis of intra-day highs and lows, a 1-1.25% swing either ways would be considered normal on a rough cut basis.
But in the current scenario, where the impact of global markets is huge, a 1.5-1.75% swing can also be considered normal,” said Deepak Jasani, head of retail research at HDFC Securities.
“If you look at the entire day’s swings (not just intra-day high and low), then normal volatility would be anywhere between 2% and 2.5%,” he added.
A report from JM Morgan Stanley dated March 15, 2007, says “realised volatility (a mathematical measure of risk) has been on a secular decline since the early 1990s, partly justified by the fall in business risks over the past 15 years and partly driven by the rise in global risk love over the past 3-4 years.”
However, the report argues that as risk appetite (both local and global) normalises, Indian equities will likely get more volatile (as is being currently experienced) and this has implications for long-term returns, which have been buttressed by the falling volatility trends of the past decade.
“If volatility undergoes a cyclical upward revision, as we are arguing, then it is bound to negatively impact share prices in order to make the long-term returns more attractive from here on. Put another way, long-term returns need to rise to compensate investors for the rise in risk, which is what a rise in volatility signifies and, ceteris paribus, share prices need to be lower,” it says.
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