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IronFX analysts have provided recommendations on how to use standard deviation in a trading strategy.
The explanations on the website state that the standard deviation is a statistical measure that can be calculated as the square root of variance. In fact, the standard deviation is a kind of volatility indicator that highlights and evaluates volatile periods. It also changes the settings of other technical indicators to help the system react faster to signals during volatility spikes.
By measuring the difference of each data point from the mean, the square root of the variance is used to calculate the standard deviation. A higher variance exists in a data set when the data points deviate from the mean. Therefore, the more scattered the data, the higher the standard deviation.
In statistics, the standard deviation indicator is used to quantify how volatile the market is at any given time. In technical analysis, it describes the volatility of the price relative to a moving average (over 20 days). The more unpredictable or volatile the market, the higher the standard deviation.
However, as the standard deviation decreases, the market becomes more stable and steady. In other words, the price bars are closer to the moving average. However, it is well known that market dynamics are characterized by cyclical, stable intervals and peaks of activity.
In risk management, the standard deviation is used to calculate risk and return. It can be used to calculate an index, an asset, or the entire market. In addition, the standard deviation can be used to quantify the historical volatility of an investment or transaction when applied specifically to the rate of return.
It can also be used to evaluate the current price movement in the market. Market tops with low volatility can indicate a more experienced bull market. For example, market tops with rising volatility may indicate uncertain traders.
Conversely, a low standard deviation indicates that traders may not be interested in the current market, while a high standard deviation indicates panic selling at market bottoms.
Compared to other statistical calculations, data deviation and volatility are the most commonly used in analysis. That's why investors often use volatility in a variety of contexts.
