Ulcer Index: volatility that only counts the downside

What it measures

The Ulcer Index measures how far price has been below its recent high, and for how long, by taking the root mean square of percentage drawdowns.

Standard deviation treats an upside surprise as equivalent to a downside one. Nobody holding a position experiences them that way, and the Ulcer Index is built around that asymmetry.

The name is literal: it was designed to quantify how much stress holding an instrument would have caused.

How it is calculated

These are the steps Basis performs, verified against the published definition.

1. 1

   For each bar, find the highest close over the lookback window.

2. 2

   Compute the percentage drawdown from that high to the current close.

3. 3

   Square each drawdown, average the squares over the window, and take the square root.

Settings

Fourteen periods is the usual default, taken from the original fourteen days on a daily chart. A longer window makes it a slower and more stable measure of sustained pain rather than of a single dip.

How to read it

• Zero means price is at its lookback high — no drawdown at all.
• Rising readings mean the market is spending more time further below its highs, which is different from simply being volatile.
• Comparing two instruments by Ulcer Index rather than by volatility ranks them by how painful they were to hold.
• A market can be extremely volatile and have a low Ulcer Index if all the volatility was upward.
• Dividing return by the Ulcer Index gives the Ulcer Performance Index, which ranks strategies by return per unit of drawdown pain rather than per unit of dispersion. For anyone who actually has to hold the position that is a more honest ranking than a Sharpe ratio.

Where it misleads

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