Standard deviation measures the total risk of the mutual fund rather than just the market-related volatility. Having a high standard deviation depends on the investor’s risk tolerance and investment goals. Higher standard deviation indicates higher risk and potential for higher returns. It may be suitable for investors seeking aggressive growth but may not be suitable for those with a low-risk appetite. You are advised to consult an investment advisor in case you would like to undertake financial planning and / or investment advice for meeting your investment requirements. Markets are volatile, and equities are volatile, mutual funds are volatile; this is the very nature of markets.
- But if the funds deliver the same return, then the Sharpe ratio of the fund with a lower standard deviation will be higher.
- In a normal distribution, standard deviation tells you how far values are from the mean.
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- This implies, if S&P Sensex 500 falls by 1%, then Tata Multicap fund is expected to fall by 0.95%.
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Fees charged by investment advisors have not been taken into considiration. The following table shows the Sharpe ratio of different Mutual Fund categories and contains the funds with the highest Sharpe ratio in various categories. Let’s calculate the Sharpe ratio of each fund using the Sharpe ratio formula. It can be used to analyse the historical performance of a fund in isolation. We have handpicked some portfolios just for you on the basis of investor profile score.
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Even the most range-bound charts experience brief spurts of volatility from time to time, often after earnings reports or product announcements. In these charts, normally narrow Bollinger bands suddenly bubble out to accommodate the spike in activity. Standard deviation is calculated by taking the square root of the variance, which itself is the average of the squared differences of the mean.
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- Variance stands for the average of the squared differences in relation to the mean.
- These outer bands oscillate with the moving average according to changes in price.
- Instead, it compares the square of the differences, a subtle but notable difference from actual dispersion from the mean.
Still, you might prefer to know what you’re getting into in terms of standard deviations, rather than getting caught by surprise if returns swing up and down. That’s not to say that the returns can’t fall outside of a standard deviation range. For example, if the standard deviation was 5%, then a 10% swing from the average would be considered two standard deviations. As you’ll learn below in more detail, the majority of returns fall within one standard deviation.
So, if an investor is looking at this mutual fund, they can understand that the returns they might get could be as low as 5% or as high as 15%. This information helps investors decide if this fund fits well with the level of risk they are comfortable with and whether it meets their investment objectives. In an ideal world, investments would move in a smooth path in an upward direction, perfectly in line with the market conditions. But this is not the case in reality – the fluctuations might be rather stark and erratic. Though often less volatile than stocks, mutual funds are no exception to volatile, erratic behaviour.
2 – Alpha
By now, you must have realized that volatility plays an important role in measuring mutual funds performance. Beta is a measure of volatility; it tells us how risky the fund is when compared to its benchmark. Beta is a relative risk and does not reveal the fund’s inherent risk. Assessing standard deviation in mutual funds allows you to understand the volatility of a fund. It helps you choose a fund whose risk levels you are comfortable with, contributing to better investment decisions. However, you must consider the fact that standard deviation also has some limitations as well.
What Does Standard Deviation Measure?
Historical returns for Apple’s stock were 88.97% for 2019, 82.31% for 2020, 34.65% for 2021, -26.41% for 2022 and, as of mid-April, 28.32% for 2023. After entering your data, use the STDEV.S formula if your data set is numeric or the STDEVA when you want to include text or logical values. There are also several specific formulas to calculate the standard deviation for an entire population.
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Looking at the fund from a cost perspective, VCORX is actually cheaper than its peers. Sharpe ratio is a quantitative metric that gives you a snapshot of the fund’s performance. You can also analyze the fund’s risk to understand if it is able to generate returns than the risk-free rate.
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Developed by the technical trader John Bollinger in the 1980s, Bollinger bands are a series of lines that can help identify trends in a given security. Standard deviation from the mean represents the same thing whether you are looking at gross domestic product (GDP), crop yields, or the height of various breeds of dogs. You don’t have to interpret an additional unit of measurement resulting from the formula.
If the portfolio has several funds, then standard deviation cannot provide any comparable results. For example, a growth-oriented fund or an emerging market fund will have greater volatility than a debt fund. But just because a fund has a higher standard deviation, it does not automatically imply that the fund is performing worse off than a fund with a lower standard deviation. The deviation tends to become a secondary consideration if the former fund performs better irrespective.
For instance, a beta of 1.2 suggests that the fund is 20% riskier compared to its benchmark. For example, if a fund has an alpha of one, it means that the fund outperformed the benchmark by 1%. Negative alphas are bad in that they indicate the fund underperformed for the amount of extra, fund-specific risk the fund’s investors undertook. R-squared values range between 0 and 100, where 0 represents the least correlation, and 100 represents full correlation. If a fund’s beta has an R-squared value close to 100, the beta of the fund should be trusted. On the other hand, an R-squared value close to 0 indicates the beta is not particularly useful because the fund is being compared against an inappropriate benchmark.
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Basically, the more spread out the data, the greater the difference is from the norm. In finance, standard deviation is applied to the annual rate of return of an investment to measure its volatility (risk). With mutual funds, the standard deviation tells us how much the return on a fund is deviating from the expected returns based on its historical performance. Variance stands for the average of the squared differences in relation to the mean. The variance can be calculated by getting the difference of each point from the mean.
Again, it is not to say that Nippon India Large Cap’s standard deviation is not favorable. As an investor, you can take a call depending on your return expectations https://1investing.in/ and risk appetite. You cannot decide if the standard deviation of a fund is high or low unless you compare it to other schemes in the same category.
Mean deviation tells us how far, on average, all values are from the middle. In other words, this means that 68% of the time, Fund C’s future returns may range between 7% and 13% (10% average plus or minus its standard deviation of 3). Similarly, 95% of the time, the future returns are likely to fall between 4% and 16% (10% average plus or minus twice the standard deviation, i.e., 6).