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Stabilizing effect of volatility in financial markets

Lookup NU author(s): Professor Giorgio Fazio



This is the authors' accepted manuscript of an article that has been published in its final definitive form by American Physical Society, 2018.

For re-use rights please refer to the publisher's terms and conditions.


In financial markets, greater volatility is usually considered synonym of greater risk and instability. However, large market downturns and upturns are often preceded by long periods where price returns exhibit only small fluctuations. To investigate this surprising feature, here we propose using the mean first hitting time, i.e. the average time a stock return takes to undergo for the first time a large negative (crashes) or positive variation (rallies), as an indicator of price stability, and relate this to a standard measure of volatility. In an empirical analysis of daily returns for 1071stocks traded in the New York Stock Exchange, we find that this measure of stability displays nonmonotonic behavior, with a maximum, as a function of volatility. Also, we show that the statistical properties of the empirical data can be reproduced by a nonlinear Heston model. This analysis implies that, contrary to conventional wisdom, not only high, but also low volatility values can be associated with higher instability in financial markets. This proposed measure of stability can be extremely useful in risk control.

Publication metadata

Author(s): Valenti D, Fazio G, Spagnolo B

Publication type: Article

Publication status: Published

Journal: Physical Review E

Year: 2018

Volume: 97

Issue: 6

Online publication date: 08/06/2018

Acceptance date: 16/05/2018

Date deposited: 25/05/2018

ISSN (print): 2470-0045

ISSN (electronic): 2470-0053

Publisher: American Physical Society


DOI: 10.1103/PhysRevE.97.062307


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