The Importance of Standard Deviation in Investment
The most frequently used measurement of investment risk is standard deviation. The measurement is used in math and science; it is calculated using a series of numbers. The first step in computing standard deviation is to calculate the mean or average. The second step is to determine the range of returns of the numbers, measured from the mean or average.
Standard deviation is a statistical measure of the degree to which an individual value in a probability distribution tends to vary from the mean of the distribution (a bellshaped curve). The measurement is used widely by mutual fund advisory services and in modern portfolio theory (MPT). In the case of MPT, past performance of an asset class is used to determine the range of possible future performances and a probability is attached to each performance. The standard deviation of performance can then be calculated for each security and for the portfolio as a whole. The greater the degree of dispersion or variance in annual returns, the higher the standard deviation and risk.
Calculating Standard Deviation
Period  Annual Return  Deviation For Each Period (step #2)  Deviation Squared (step #3)  
1  3.4  9.6  92.0  
2  9.9  3.7  13.8  
3  2.0  8.2  67.1  
4  21.7  15.5  240.6  
5  6.2  12.4  153.5  
6  11.0  4.8  23.1  
7  9.1  15.3  233.8  
8  13.1  6.9  47.7  
9  1.5  7.7  59.1  
10  28.6  22.2  493.3  
sum (1–10)  61.9  1,424.0  sum of squared deviations (step #4)  
average (step #1)  6.2%  142.4  divided by number of periods (step #5)  
11.9%  std. dev. (square root of variance) (step #6) 
Why Standard Deviation is Widely Used
 it is a broader measure than beta; it gauges total risk, not just marketrelated volatility;
 it idoes not depend on any relationship to an arbitrarily chosen market index;
 it can measure risk of specialized portfolios as well as broadly diversified ones;
 it can be used to gauge the variability of both bond or stock investments, and
 it is a tool that helps match the risk level of an asset or portfolio to a client’s risk tolerance.
Fund Category  Standard Deviation  Fund Category  Standard Deviation 
Large Cap Growth  19 / 17 / 18  Foreign Large Growth  23 / 21 / 22 
Mid Cap Growth  21 / 20 / 21  Foreign Large Blend  23 / 20 / 20 
Small Cap Growth  24 / 21 / 21  Foreign Large Value  24 / 20 / 20 
Large Cap Blend  20 / 17 / 16  Foreign Small–Mid Growth  23 / 23 / 25 
Mid Cap Blend  22 / 20 / 20  Foreign Small–Mid Value  24 / 22 / 23 
Small Cap Blend  25 / 21 / 20  Emerging Markets Stock  26 / 28 / 29 
Large Cap Value  20 / 17 / 16  Balanced  16 / 12 / 12 
Mid Cap Value  22 / 20 / 18  Convertibles  13 / 15 / 16 
Small Cap Value  26 / 21 / 19  LongTerm Government  17 / 14 / 13 
Precious Metals  34 / 40 / 42  MedTerm Government  3 / 4 / 4 
Natural Resources  27 / 29 / 30  ShortTerm Government  2 / 2 / 2 
Technology  22 / 22 / 23  Emerging Markets Debt  10 / 12 / 14 
Utilities  14 / 16 / 17  HighYield Bond  10 / 12 / 13 
Health Care  17 / 16 / 16  MultiSector Bond  7 / 8 / 9 
Financial  27 / 23 / 20  World Bond  8 / 7 / 8 
Real Estate  30 / 31 / 30  HighYield Municipal  8 / 9 / 9 
Bear Market  28 / 23 / 22  LongTerm Municipal  6 / 6 / 6 
World Stock  21 / 19 / 19  MedTerm Municipal  4 / 4 / 4 

 ShortTerm Municipal  2 / 2 / 2 