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The dirt underneath

Cross-sectional volatility among large-cap U.S. stocks increased during third-quarter earnings season as overall positive results were reported. The index's trailing 12-month EPS was at $118.53, the highest ever. Volatility during October was 6.5%, up from 5.9% in July and 5% in April. Year-to-date, cross-sectional volatility was about 26% through October, 0.40 percentage points higher than 2016's annual volatility and 2.5 percentage points higher than 2015's reading.

The measure looks at the distribution of returns among a set of equities – the S&P 500 in this case – over a given period. Higher volatility in one period relative to another suggests lower correlation among the observed stocks and presents a better environment for active management.

While volatility among index constituents has been healthy, the volatility of the index as measured by the CBOE Volatility index has been historically low and moving counter to that of its underlying returns. During 2017, the cross-sectional volatility of the 10 largest index positions (about 22% of the total index market cap) was 4.1%, 2.4 percentage points below the rest of the index, implying that the low volatility of a relatively few stocks could be muting the volatility of the index as a whole.