We Don't Quite Know What We are Talking About When We Talk About Volatility

Abstract:     
Finance professionals, who are regularly exposed to notions of volatility, seem to confuse mean absolute deviation with standard deviation, causing an underestimation of 25% with theoretical Gaussian variables. In some fat tailed markets the underestimation can be up to 90%. The mental substitution of the two measures is consequential for decision making and the perception of market variability.

Keywords: finance, volatility, risk, intuition, statistics, metrics

JEL Classifications: D8, D9, E2, G2, N2

Accepted Paper Series