Bitcoin is one of the more volatile assets you can invest in today. This post displays Bitcoin’s volatility index and how to measure it.
Bitcoin Volatility Index Summary
The Bitcoin Volatility Index (often abbreviated as BVIX or BVI) is a financial metric designed to measure how much Bitcoin’s price is expected to fluctuate over a specific period, typically using data from the options market. In simple terms, it’s a tool that tells investors how “bumpy” the ride might be if they’re holding or trading Bitcoin in the near future.
Bitcoin Volatility (measured by % of change)
That’s the Bitcoin volatility index in a nutshell. For a more detailed explanation about Bitcoin’s volatility, keep on reading, here’s what I’ll cover:
1. Is Bitcoin Volatile?
Yes, Bitcoin is considered relatively volatile, but it really depends on what you compare it to. Bitcoin’s volatility is a measurement of how much Bitcoin’s price fluctuates, relative to the average price in a given time period.
Volatility measures past performance of price and is used to predict how likely it is that the price will change dramatically. The higher the volatility – the riskier the asset.
2. Why is Bitcoin so Volatile?
Usually, the smaller market cap an asset has, the more volatile it will be. Imagine throwing a rock into a small pond. Now take the same rock and throw it into the ocean. The rock will have much more effect on the pond than on the ocean.
In the same manner, Bitcoin (the small pond for now) is more volatile (i.e. affected) by everyday buy / sell orders (the rock).
Today, Bitcoin’s market cap is around $350 billion. In comparison, gold’s market cap is around $3 trillion (over 8x larger).
Market cap is calculated by multiplying the number of Bitcoins in circulation by the price of each Bitcoin.
Since the amount of Bitcoins in circulation is limited (21 million) and we’ve already reached 88% of the total amount, the major influence on Bitcoin’s market cap will be through price changes.
Once the price increases and brings the market cap to a higher level, price movements will become smaller.
In short, a higher price = higher market cap = lower volatility.
3. How to Calculate Bitcoin’s Volatility?
Volatility is measured by sampling how far away Bitcoin’s price goes from the price at a fixed point in time. In our case – Bitcoin’s opening price on a specific day.
Bitcoin’s daily volatility formula is actually the standard deviation of Bitcoin’s price.
The standard deviation is calculated as follows = √(Bitcoin’s price variance).
Bitcoin’s price variance is calculated as follows:
- Sample Bitcoin’s price at different time points throughout the day – the number of samples is N
- Calculate: (Bitcoin’s opening price – Price at N)^2
- Sum up all the results = ∑(Bitcoin’s opening price – Price at N)^2
- Divide the results by N = ∑(Bitcoin’s opening price – Price at N)^2 /N
- This is the Bitcoin’s variance
Bitcoin’s daily volatility = Bitcoin’s standard deviation = √(∑(Bitcoin’s opening price – Price at N)^2 /N).
For a general timeframe volatility calculation, use the following formula:
√timeframe * √Bitcoin’s price variance
For example, the annualized volatility for Bitcoin would be √365 * Bitcoin’s daily volatility.
The monthly volatility would be √31 * Bitcoin’s daily volatility and so on.
What Units is Bitcoin’s Volatility Measured In?
In the example above we’ve used Bitcoin’s price to measure the standard deviation. Therefore, the volatility is measured in US dollars. If you want the volatility to be displayed in percent, you’ll need to recalculate the variance in percent using the following formula:
- Sample Bitcoin’s price at different time points throughout the day – the number of samples is N
- Calculate the deviation in percent: ((Bitcoin’s opening price – Price at N)/Bitcoin’s opening price*100)^2
- Sum up all the results = ∑((Bitcoin’s opening price – Price at N)/Bitcoin’s opening price*100)^2
- Divide the results by N = ∑((Bitcoin’s opening price – Price at N)/Bitcoin’s opening price*100)^2 / N
- This is the variance as a percentage
The square root of the variance in percent will be the standard deviation, or volatility, as a percentage.
4. Conclusion
Bitcoin is still considered an extremely volatile asset, which means that 5%-10% price changes on a single day aren’t uncommon.
Bitcoin’s high volatility makes it difficult for businesses to accept it as payment, and also makes it very nerve wracking for a lot of investors.
On the bright side, high volatility means that experienced traders can make a nice profit from trading Bitcoin. As Bitcoin matures and becomes more mainstream, its price will rise and its volatility will decrease accordingly.
Do you think Bitcoin will ever stop being volatile? Let me know in the comment section below.
FAQs
What Affects the Price of Bitcoin?
Bitcoin’s price is affected by supply and demand. The more demand there is for Bitcoin, the higher people will be willing to pay for it – hence the price will go up.
If there’s no demand for Bitcoin, people will be willing to get rid of it for a lower price – hence the price goes down.
The term “Bitcoin Price” refers to the last price of a trade conducted on a specific exchange. Therefore, Bitcoin’s price on Bitstamp will be different than Bitcoin’s price on Coinbase, since both exchanges have different trades going on.
Usually the price differences between exchanges are minimal, however, in some cases a gap can develop, allowing for Bitcoin arbitrage opportunities.
What is the Bitcoin Volatility Index
The Bitcoin Volatility Index is a financial metric designed to measure how much Bitcoin’s price is expected to fluctuate over a specific period. Generally speaking, the higher the volatility of an asset, the riskier it is often considered. Volatility can be attractive for active traders and long-term investors. Short-term investors typically avoid high-volatility assets.
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