Z-Score vs.

Standard Deviation: What's the

Difference?
By 
THE INVESTOPEDIA TEAM
 

Updated October 01, 2021

Reviewed by ANDY SMITH

Fact checked by 
TIMOTHY LI

Z-Score and Standard Deviation: An Overview

Although the finance industry can be complex, an understanding of the
calculation and interpretation of fundamental mathematical building blocks is
still the foundation for success, whether in accounting, economics, or
investing.

Standard deviation and the Z-score are two such fundamentals. Z-scores can
help traders gauge the volatility of securities. The score shows how far away
from the mean—either above or below—a value is situated. Standard
deviation is a statistical measure that shows how elements are dispersed
around the average, or mean. Standard deviation helps to indicate how a
particular investment will perform, so, it is a predictive calculation.

A firm grasp of how to calculate and utilize these two measurements enables
a more thorough analysis of patterns and changes in any data set, from
business expenditures to stock prices.
KEY TAKEAWAYS

 Standard deviation defines the line along which a particular data point
lies.
 Z-score indicates how much a given value differs from the standard
deviation.
 The Z-score, or standard score, is the number of standard deviations a
given data point lies above or below mean.
 Standard deviation is essentially a reflection of the amount of variability
within a given data set.
 Bollinger Bands are a technical indicator used by traders and analysts
to assess market volatility based on standard deviation.

Z-Score
The Z-score, or standard score, is the number of standard deviations a given
data point lies above or below the mean. The mean is the average of all
values in a group, added together, and then divided by the total number of
items in the group.

To calculate the Z-score, subtract the mean from each of the individual data
points and divide the result by the standard deviation. Results of zero show
the point and the mean equal. A result of one indicates the point is one
standard deviation above the mean and when data points are below the
mean, the Z-score is negative.

In most large data sets, 99% of values have a Z-score between -3 and 3,
meaning they lie within three standard deviations above or below the mean.

Z-scores offer analysts a way to compare data against a norm. A given

company’s financial information is more meaningful when you know how it
compares to that of other, comparable companies. Z-score results of zero
indicate that the data point being analyzed is exactly average, situated
among the norm. A score of 1 indicates that the data are one standard
deviation from the mean, while a Z-score of -1 places the data one standard
deviation below the mean. The higher the Z-score, the further from the norm
the data can be considered to be.

In investing, when the Z-score is higher it indicates that the expected returns
will be volatile, or are likely to be different from what is expected.
A Bollinger Band® is a technical indicator used by traders and analysts to
assess market volatility based on standard deviation. Simply put, they are a
visual representation of the Z-score. For any given price, the number of
standard deviations from the mean is reflected by the number of Bollinger
Bands between the price and the exponential moving average (EMA).1

Standard Deviation
Standard deviation is essentially a reflection of the amount of variability within
a given data set. It shows the extent to which the individual data points in a
data set vary from the mean. In investing, a large standard deviation means
that more of your data points deviate from the norm, so the investment will
either outperform or underperform similar securities. A small standard
deviation means that more of your data points are clustered near the norm
and returns will be closer to the expected results.

Investors expect a benchmark index fund to have a low standard deviation.

However, with growth funds, the deviation should be higher as the
management will make aggressive moves to capture returns. As with other
investments, higher returns equate to higher investment risks.

The standard deviation can be visualized as a bell curve, with a flatter, more
spread-out bell curve representing a large standard deviation and a steep, tall
bell curve representing a small standard deviation.

To calculate the standard deviation, first, calculate the difference between

each data point and the mean. The differences are then squared, summed,
and averaged to produce the variance. The standard deviation, then, is the
square root of the variance, which brings it back to the original unit of
measure.

The Bottom Line

In investing, standard deviation and the Z-score can be useful tools in
determining market volatility. As the standard deviation increases, it indicates
that price action varies widely within the established time frame. Given this
information, the Z-score of a particular price indicates how typical or atypical
this movement is based on previous performance.