1. Using Statistics to Describe Price Charts
Here is a chart of the S&P 500 for the last six months
of 2022. At times, the index increased in value and had a positive
return. Another way to say this is that the average or the main
return during these time periods is positive. The greater the positive gradient
of the line, the higher the main return. At other times,
the index had a negative return. The more negative the return,
the more negative the gradient. This is the price chart of Exxon Mobile
over the same time period in 2022. We can see that while the
price jumped around and there was a fall in the stock price at
the end of September or start of October, the overall trade of the
stock price was positive. Again, the steeper the trend, the higher the main
return. Now we have a chart showing the S&P 500 index over a
longer period. This time from the start of 2021 to the end of
2022. Again, the index does jump around a lot, and this is known
as "volatility." When a financial asset has a high volatility, it's considered
relatively more risky, because it's harder to predict what the future price
will be. We can use statistics to measure volatility.
Also notice that the index is more volatile when it has a negative
return than when it has a positive return.
As often the case that financial securities are more volatile when they
are falling in value than when they are rising in value.
Here's a chart showing the price of Exxon Mobile, the yellow line versus
the S&P 500, the purple line, over the last six months of 2022.
Sometimes the two securities seem to move quite closely together. In the
month of September 2022, we can see that both Exxon Mobile and the S&P 500
moved sharply down together. After this, however, up until late November
2022 while both securities did trend upwards, Exxon Mobile did so at a
much greater rate. During the final month of the year, December 2022, the
securities actually diverged and moved in different directions from each
other. Statistics can help us describe how two securities move in relation
to each other, and this is known as the correlation.
Sometimes securities have a higher degree of correlation.
This is the S&P 500 the purple line again, versus the price of
Apple, the green line, again, over the last six months of 2022.
Apple is a much larger stock that Exxon Mobile, so it's a much
bigger part of the S&P 500 index. This means, when Apple goes up,
it tends to drag the entire index up. When Apple falls,
it tends to drag the whole index down.
2. Let's practice!