Chartered Market Technician Practice Exam 2025 – Complete Prep Guide

A "fat tail" in a distribution refers to the phenomenon where extreme values occur more frequently than would be expected in a normal distribution. In a normal distribution, the frequency of extreme values decreases rapidly as you move away from the mean. However, a fat tail indicates that there are significant probabilities associated with these extreme outcomes, which suggests that price movements can be more volatile and that rare events are more likely to happen.

This characteristic is emblematic of many financial markets where price behaviors can lead to large, unexpected movements, such as crashes or spikes. Therefore, the presence of a fat tail directly implies that the distribution governing the price behavior is not normally distributed; it possesses a greater likelihood of extreme price movements than would be anticipated under a traditional normal distribution.

This trait is crucial for risk management and option pricing, as it highlights the importance of preparing for and acknowledging the impact of rare but significant events. Thus, the assertion that prices are not normally distributed, due to the evidence of fat tails, accurately reflects the complexities and realities of price behavior in financial markets.