Throughout history there have been a number of extremely meaningful volatility spikes across major financial markets. Each had defining characteristics that made them similar, despite occurring in very different markets and for different reasons.
The continuity seen across these volatility cycles is a good thing, because while it doesn’t necessarily make a major volatility spike highly predictable, historical precedence offer a blueprint for identifying conditions that are supportive for a potential vol-event to occur, and how they are likely to unfold once in motion. This can be of great help in guiding trading decisions, whether that is to steer clear of a potential vol blow-up or move towards it with the appropriate strategy that can take advantage of the outsized price swings that come with unusual levels of volatility.
We will first discuss what a volatility event typically looks like in terms of the behavior of volatility itself, then take a close look at some of the largest spikes ever witnessed in major financial markets.
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What is Volatility?
“In simple terms, volatility can be defined as the variations at which a market fluctuates. The morean asset’s price moves, the higher the volatility – the less the price moves, the lower the volatility.”
- Paul Robinson, DailyFX
In this piece we are looking at a short-term measure of volatility(two-week duration)called Realized Volatility, which is volatility as it has already occurred. It is also known as Historical Volatility.
What Does a Volatility Event Cycle Look Like?
In the lead-up to a volatility spike, there is often a build-up period where volatility rises gradually, indicating markets could be headed for significant dislocation and disruption. The period of subtle unrest is followed by a sudden, vertical move
