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Article: Why does standard deviation mislead? Standard deviation misleads because it is misused.
- Article from:
- Money Digest
- Article date:
- October 1, 1996
CopyrightCOPYRIGHT 1996 Money Digest. This material is published under license from the publisher through the Gale Group, Farmington Hills, Michigan. All inquiries regarding rights should be directed to the Gale Group. (Hide copyright information)
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Mutual fund analysts constantly use standard deviation as a measure of risk, although recently some analysts have been questioning its use. Most analysts seem to assume that: 1) volatility is the only risk there is; and 2) the standard deviation is an absolute measure of volatility.
Both these assumptions are wrong. The biggest risk an investor faces is the risk of capital loss, volatility being one aspect of it. Secondly, the standard deviation is not an absolute measure of volatility but a relative measure. It is related to the size of the average return. Generally speaking, funds with higher returns will have a higher standard deviation ...