Critically discuss the use of standard deviation as a risk indicator Essay - 1

Critically discuss the rehearse of specimen deviation as a risk indicator for investment purposes - Essay ExampleA greater standard deviation implies a greater volatility. More the volatility, more the risk. Generally, lavishly risk is associated with high returns and high losses. Therefore, a fund with higher average returns and lower volatility is the most preferred option. However, much(prenominal) an ideal situation rarely materializes and the investors have to strike a balance between returns and risk out-of-pocket to volatility. normal deviation acts as a useful tool in achieving this balance.Standard deviation is not a failsafe method for risk measurement. Standard deviation has an inherent limitation that it is based on compendium of historic data. That is why it is also known as historical volatility. The allocation of assets in a strain or fund in the past may be entirely different from the situation today. Therefore, past performance would not be a suitable indica tor of future performance. In this case several(prenominal) external factors would have to be considered and standard deviation may fail to give desired results.Standard deviation does not give information about the current debt structure of the company. It does not take into peak the recent changes. For example, a certain company may have an average debt of 30% of the total dandy structure over the past 20 courses but suddenly over the past year the company has taken a large amount of debt which has take it to 60%. This would have an impact on the financial condition of the company and stockholders are bound to suffer. However, a standard deviation would still aim a decent amount of volatility in accordance with previous debt structure. This leads us to the interpretation that standard deviation alone should never be used as a risk indicator.Many analysts trust that standard deviation is a measure of volatility and not of risk. This has to do with the fact that risk nub diffe rent things for different people. For some investors, risk implies losing all of their investment, for others a negative return