Syndicate
Historical Volatility – HV
Historical volatility is probably a little bit easier to comprehend and measure. Given the fact that it has to do with price movements of the security that have taken place in the past, all that has to be done is the recollection of the data of the price movements in the past and calculate the historical volatility. The subject would then depend on how much data one is interested in utilizing and the type of intervals one wants to focus on. Almost all of the measurements of historical volatility when utilized in the world of trading will default to a twenty one day past period, which matches up to the number of days that are used for trading in one month. Given that most traders are usually the short term kind of traders, making a default to a twenty one day level of volatility would be the right starting out spot. In other words, we are going to obtain the closing prices of certain security from the past twenty one days of trading and turn them into a volatility number in order to then use it in the model of option pricing. There are some people that prefer to calculate historical volatility in different ways; some people use the ten day, thirty day, fifty day etc, look back periods in order to calculate historical volatility. And instead of using the closing prices, they choose to add in the low and high closing prices in the calculations they make. If you are not fully aware of what a look back period or stage is, just imagine it being the same as the common technical indicator on a standard price chart.
Implied volatility – IV
Implied volatility is a bit more complicated. Implied volatility has to do with the future viewing of a calculation in which the market makers make an assessment about how they feel the stock or commodity is going to fluctuate in the upcoming future or at least until the option expiration date. The calculation that is obtained is then utilized in the formula of option pricing. Not only does it take into account the past performance of the security, but in addition it factors in additional outside forces that could move the stock or commodity in the near future. Outside or external forces can be made up of such things as earnings reports, Federal Reserve meetings, unemployment reports, OPEC meetings, crop reports, weather reports, etc, etc. and these are all different things that can have an effect on the price of the security, and because of that, the prices of options can become affected as well. Whenever market makers are aware of a big meeting that is going to be occurring, they begin to price the options again in order to show the insecurity of the result of the meeting or event that is going to occur. Once it is known what the meeting or event was all about, the implied volatility is once again readjusted to show the usual or normal trading situation.