Volatility
How much and how quickly an asset’s price moves over a given period.
Also called: vol · volatile
In plain language
Volatility measures the size of price swings, not their direction. A market that falls 3% and rallies 3% every day is highly volatile whether or not it ends the week higher.
It is usually quantified as the standard deviation of returns, or in trading terms via Average True Range, which reports the typical daily range in the instrument’s own price units.
Volatility clusters. Quiet periods tend to follow quiet periods, and once a market becomes violent it usually stays that way for a while.
Why it matters
Volatility should set your stop distance, and your stop distance sets your position size. Using the same stop on a calm and a violent instrument means taking wildly different real risks.
Common mistakes
- Using a fixed percentage stop across instruments with completely different ranges.
- Confusing volatility with opportunity. More movement also means more ways to be stopped out.
- Sizing up during quiet periods and forgetting that volatility can triple overnight.
Keep exploring
These concepts are connected. Understanding one usually makes the next one easier.
The average size of an instrument’s price range per period, including gaps.
A stop placed at a multiple of the instrument’s Average True Range rather than a fixed percentage.
The gap between your entry and your stop loss — your risk on a single unit.
The market’s expectation of future price movement, derived from option prices.
The amount of an asset you buy or sell in a single trade.