Historical Volatility

Historical volatility measures the degree of variation in an asset’s price over a defined period, based on past market data. It is typically calculated using the standard deviation of logarithmic price returns and expressed on an annualized basis. Historical volatility reflects how much prices have fluctuated, not how much they are expected to move in the future.

In trading, historical volatility is used to assess risk, compare assets, and inform pricing decisions. For example, traders may compare historical volatility to implied volatility in options markets to determine whether options appear relatively expensive or cheap. If implied volatility is significantly higher than historical levels, the market may be pricing in future uncertainty or event risk.

In energy markets, historical volatility can be influenced by weather patterns, geopolitical events, inventory levels, and infrastructure constraints. While useful, historical volatility has limitations: it assumes past behavior is indicative of future risk. As a result, it is often combined with forward-looking measures and stress scenarios in comprehensive risk management frameworks.