In volatile markets like the one we are currently experiencing; it is easy to wonder whether today’s market environment is normal when compared to the history of the stock market. One way to measure market volatility is by measuring Outside Days. Outside Days are simply days in which the market, particularly the S&P 500, experiences a return that is either greater than a gain of 1% or a decline lower than -1%; in layman’s terms, they are simply volatile days in the stock market.
Historically speaking, an average of 24% of trading days each year in the S&P 500 are Outside Days. By knowing this historic average, we are able to categorize years into two categories: Outside Years and Inside Years. Outside Years, or volatile years, are years in which more than 24% of trading days are Outside Days. Inside Years, or calm years, are years in which less than 24% of trading days are Outside Days. While seemingly insignificant, there is a clear dispersion in how Outside Years perform versus Inside Years.
From 1928 to 2021, the S&P 500 has experienced 54 Inside Years and 40 Outside Years. Inside Years have an average return of 12% and have a positive return 80% of the time; in fact, the S&P 500 has only had one negative Inside Year in the past 40 years (1994). Positive Inside Years historically average an annual return of 17%, whereas negative Inside Years have averaged -9%. If history is to be our guide, Inside Years and their calmer, steadier nature have been very friendly to investors. Notable examples of Inside Years include 2021, 2019, and 2017.
On the other hand, Outside Years have been a coin flip. Of the 40 Outside Years since 1928, only 53% of them have had a positive return. Outside Years have historically had very strong moves in both directions, which cancel out to create an average annual return of just 3%. Positive Outside Years have historically averaged 21% for the year, while negative Outside Years average an annual return of -17%. Notable examples of Outside Years include 2020, 2018, 2009, and 2008.
It may be impossible to know whether a year will end up as an Inside Year or Outside Year before it is finished, but tracking Outside Days throughout the year can help us to know what to expect. For perspective, 2022 is currently considered an Outside Year, with over 50% of trading days being Outside Days; if this pace continues, it would be the most volatile year since 2008. While Outside Years are not inherently negative (2003, 2009, and 2020 are recent examples of strong Outside Years), they do hint to investors that, even if the year does end with strong performance, it may be a bumpy ride.
