Standard deviation

Standard deviation is still the most widely used measure of dispersion, or in financial markets, risk.

Standard deviation (SD) is still the most widely used measure of dispersion, or in financial markets, risk.That all sounds a bit technical but it's actually pretty straightforward to understand.

It is based on the idea that any population is "normally distributed" in other words, whether it contains the height of every UK adult female, or the annual return from the FTSE 100 over 100 years, most members of a given group will be bunched around the arithmetic average for the whole group.

For the heights example, this would be the sum of every woman's height divided by the number of women in the UK. So a randomly chosen woman in the UK will on average be close to say 5'5" with only a few people significantly above or below that "mean" height (so-called "outliers").

SD quantifies the average dispersion of, say, heights or equity returns, above or below the mean figure. In other words, it's a measure of how widely the data varies from the mean.Given a normal distribution, about two-thirds of all the data points in a set should lie with one SD of the mean, and almost 100% should lie within three SD.

The higher the SD, the wider the spread of the data or the greater the risk that a randomly chosen woman from your data set is nowhere near the average of 5'5", or that the return from equities next year is way above or below the past 100-year average.

Recommended

Margin call
Glossary

Margin call

When an investor borrows to bet on markets, they put down a deposit known as “margin”.
2 Apr 2021
Resource curse
Glossary

Resource curse

The term “resource curse” refers to the observation that countries with abundant natural resources also tend to be less economically developed than th…
14 Jan 2021
Balance of payments
Glossary

Balance of payments

The balance of payments refers to the accounts that sum up a country's financial position relative to other countries.
8 Jan 2021
Yield-curve control
Glossary

Yield-curve control

Yield-curve control is when a central bank aims to control long-term interest rates by pledging to buy (or sell) as many long-term bonds as needed to …
25 Dec 2020

Most Popular

China owns a lot more gold than it’s letting on – and here’s why
Gold

China owns a lot more gold than it’s letting on – and here’s why

In a world awash with money-printing, a currency backed by gold would have great credibility. And China – with designs on the yuan becoming the world’…
21 Apr 2021
“Joke” cryptocurrency dogecoin goes to the moon. What’s going on?
Bitcoin

“Joke” cryptocurrency dogecoin goes to the moon. What’s going on?

Dogecoin – a cryptocurrency created as a joke – has risen by more than 9,000% this year alone. Saloni Sardana looks at how something that began as an …
19 Apr 2021
House prices in the UK are still surging – here’s why it’ll probably continue
Property

House prices in the UK are still surging – here’s why it’ll probably continue

The latest UK house price data shows no letup in the country’s booming property market, with the biggest yearly rise since 2014. And there’s no end in…
22 Apr 2021