We were recently asked if we thought markets have become more volatile over time. This is a completely valid question as it seems everywhere you turn there’s another newsworthy event. Take the past few years for example… since the start of 2020 we’ve seen:
-A global pandemic
-Geopolitical tensions rising
-The highest inflation levels in four decades
-The Fed cut rates to effectively 0%
-The Fed aggressively raise rates to over 4.75%
-An ongoing war overseas
-A banking crisis
This is by no means a comprehensive list, just what comes to mind right off the bat. It feels like we’ve been living through a period of increased uncertainty, so it’s understandable to wonder when things will get back to normal. But what is truly “normal” for the markets?
There have been plenty of newsworthy events well before the past few years. For example, since the turn of the century we have seen the dot-com bubble, the 9/11 terrorist attacks, the 2008 financial crisis and housing market collapse (which capped off a lost decade for stocks), the European debt crisis, election uncertainties, and various illness outbreaks including the bird flu, swine flu, and Ebola. Again, these are just some of the more easily recalled events with many others filling in the gaps.
While it seems there has been an acceleration of “unprecedented times” in recent years, and there certainly has been in some regards, when looking back at history there always seems to be something going on. Recency bias just makes it easy to forget the past and put more weight on what’s happening right now. It’s easier to brush off the stuff that didn’t really amount to anything with the benefit of hindsight, and forget what things looked and felt like as they were unfolding in real time.
With this in mind, we wanted to look at the data to see if markets have really been getting more volatile as it feels that is the case in today’s market environment, or if the recent amount of volatility falls in the normal range.
First, we analyzed the CBOE Volatility Index (VIX), which is an Index designed to calculate a measure of volatility for the US stock market, using the S&P 500 as a proxy for the broad market. Simply put, it provides a measure of how much markets fluctuate up and down. Looking at the chart below, we can see the high, low, and average VIX levels for the past 30 years.
There are a few interesting takeaways from this. The highest point ever reached on the VIX was a reading of over 82 which happened in 2020 during the onset of the pandemic, while the lowest point ever recorded was a reading below 9 which occurred just a few years prior in 2017. Overall, the average level of the VIX is just under 20.
Two of the past three calendar years (2020 and 2022) have been more volatile than average, with 2021 falling just below that average threshold. This makes sense considering everything that’s happened over the past few years. However, while there has been a little more market uncertainty, the numbers aren’t all that far from the normal range when looking at past years. For example, 2020’s average reading of 29.03 seems pretty high, but there were still three years with a higher average (2002, 2008, 2009). By no means is this trying to justify that 2020 was a smooth year, but it wasn’t the most volatile we’ve seen in recent history either.
It’s also important to note the past few years are coming off a long stretch of lower than average volatility. Prior to 2020, there were eight consecutive years (2012 - 2019) where the VIX was below average. This doesn’t mean there weren’t periods of time during these years where volatility spiked higher, as there were certainly some bumps in the road along the way, but overall it was a stretch of relative market smoothness. Coming off such a long run of lower volatility, it makes sense that we’ve seen a little reversion higher to the average.
In fact, when zooming out a little more and breaking the data into 10-year stretches, the most recent 10 years still has the lowest average volatility of the group.
-20.73 average for 1993 - 2002
-21.18 average for 2003 - 2012
-17.83 average for 2013 - 2022
This is pretty interesting to see considering the higher than average volatility in 2020 and 2022.
Another way to measure volatility is to see how many “large fluctuation” days have occurred in each year. For this, we defined a single day move of 3% or more (either up or down) for the S&P 500 as a large fluctuation.
The chart above highlights a similar trend to the VIX data. There has definitely been a spike higher in large single-day movements in the past few years, but that’s coming off a stretch with relatively few such days between 2012 - 2019. Also, the past few years are by no means breaking the chart here, falling within the normal range of previous outcomes.
If we break the data into 10-year stretches again, the most recent 10 years is in the middle of the pack for 3% or larger daily movement occurrences.
-50 days for 1993 - 2002
-89 days for 2003 - 2012
-51 days for 2013 - 2022
For what it’s worth, there haven’t been any days with a 3% or larger movement so far in 2023, despite all of the recent banking headlines.
Based on the data, it seems there has been an uptick in volatility over the past few years, but market volatility isn’t something that just showed up in 2020. Markets are volatile by nature, and while the past few years have seen some unprecedented events take place, there’s always something going on behind the scenes. It’s just easy to latch on to present conditions and forget the events that have taken place in the past.
Markets are also cyclical. There are periods of relative strength and weakness, as well as periods of higher and lower volatility. Volatility has increased since the start of 2020, but it doesn’t appear to be anything out of the ordinary compared to other periods of time when markets have experienced some downward pressure (2000 dot com bubble and 2008 financial crisis). After one of the longest bull markets in history, it’s not completely unreasonable to be experiencing an uptick in volatility as the pendulum swings back and forth.
Volatility in the markets is more normal than most people think. This is why we expect to receive a higher return on stocks over the long-run compared to other more stable asset classes, such as bonds and cash. Markets tend to move higher over the long run, but not without some speed bumps along the way. Understanding this can help when constructing a portfolio that fits your long-term goals and risk tolerance.