Volatility and the Markets: How to Read It to Trade and Protect Your Portfolio

Volatility is constantly discussed, but almost always imprecisely. It's often treated as a single concept, when in reality there are many different volatilities , each with a distinct operational meaning. Understanding them isn't a theoretical exercise: it's what separates "reactive" trading from informed risk management .

Over time, markets have shown one constant: returns are difficult to predict, but volatility is persistent . It's no coincidence that after calm periods lasting 30–60 trading sessions , there can be weeks in which the daily swing doubles. This is where correctly reading the various volatility measures comes into play.

Historical Volatility: What Happened, Not What Will Happen

Historical volatility is the best known. It is calculated from the daily returns of closing prices, often over 20-, 60-, or 252-day time frames. It is a snapshot of the past: it measures how much prices have moved, on average, over a certain period.

It's useful for contextualizing the present. A stock index with annual volatility of 12% moves very differently than one that consistently hovers above 25% . The limitation is clear: it completely ignores what happens within a day and fails to distinguish between ordinary days and shocking ones.

For trading, historical volatility serves primarily as a baseline : it tells you whether you are operating in a calm or tense environment, but on its own it is not enough to define stop losses or sizes.

Intraday Volatility: The Real Market, Not the “Closing” One

Intraday volatility looks at the session's highs and lows. Here, the market stops being a point and becomes a path. In many phases, the intraday range is even 2–3 times greater than the close-to-close movement.

For traders, this measurement is crucial. It determines whether a 1.2% stop loss is realistic or will be systematically hit. Furthermore, intraday volatility allows us to separate:

• directional days

• noisy days

• days of panic

  
  

During periods of stress, the daily range can go from 0.8% to over 2.5% in just a few sessions. Ignoring this means underestimating the real risk.

Implied Volatility: Market Expectations

Implied volatility arises from the options market. It doesn't measure what has happened, but what the market expects . When implied volatility rises, the market is paying for protection.

A VIX that jumps from 14 to 22 points in a few days signals a marked shift in risk perception. It's not a directional indicator, but a fear gauge. For hedging purposes, implied volatility is crucial: buying hedges when they're already above 30% annually often means paying dearly.

For trading, comparing implied and historical volatility helps understand whether the market is overestimating or underestimating future risks.

Machine Learning Volatility Forecast: Estimating Tomorrow

In recent years, machine learning models have also entered the field of volatility forecasting. Unlike classical models, they do not assume a fixed distribution and are able to capture nonlinear relationships.

The goal isn't to predict whether the market will rise or fall, but to estimate whether volatility over the next five or ten days will be closer to 10% or 20% annualized. For a trading system, this changes everything: size, leverage, stop losses, and take profits become dynamic.

In out-of-sample testing, improvements of just 3–4% in forecasting volatility spikes can reduce cumulative drawdowns by more than 20% on an annual basis.

Correlated Volatility: The Risk You Don't See

Correlated volatility affects the portfolio, not the individual asset. Two instruments with individual volatility of 15% can generate significantly different overall risk if the correlation changes from 0.2 to 0.8 .

In times of crisis, correlations tend to converge toward 1. This is why seemingly diversified portfolios suffer simultaneous losses. Monitoring correlation volatility allows us to anticipate these phases and reduce exposure before risk explodes.

Trading and Hedging: Why Volatility Matters

Volatility is the true bridge between active trading and capital preservation . It doesn't predict where the market will go, but it does predict how badly it can go if you make a mistake. A misdirection in a low-volatility environment costs little; the same mistake in a high-volatility environment can cost 3–4 times more .

Learning to read different volatilities doesn't eliminate risk, but it makes it measurable and manageable . And this is where the difference between speculation and method becomes clear.