Market volatility explained

Understanding market volatility will help give you a clearer understanding of how and why your portfolio’s value fluctuates.

Knowledge is power, as the old saying goes, and so ideally the more you understand about what is happening to your investments, and why, the better placed you will be to make sensible investment choices that will aid you in the long run.

What does it mean?

The definition of “volatile” is something that is: “liable to change rapidly and unpredictably”.

Extrapolating this, the term volatile market therefore refers to a market whose value changes very swiftly, either up or down. When this happens the market is said to be a volatile market. Low volatility refers to small fluctuations, and high volatility refers to large fluctuations.

What can cause market volatility?

Market volatility can be caused by a number of different factors, as the market itself is influenced by many things. Political changes are a big influence, as well as economic policies and events such as the oil price war.

Even things like changes in company management, natural disasters, or just plain old herd mentality can cause the stock markets to swing and the value of assets to fluctuate up and down.

In short, there are few ways to “safeguard” against it. The influences are outside of your control as an investor. Although it is important to note that not all these effects will be long running, and some will create larger fluctuations than others, that last for a longer period of time.

Are all assets volatile?

To an extent, yes, although not all carry the same level of volatility. Generally speaking, assets that are viewed as more volatile (ex. Stocks) are seen as “riskier” investments. This is because their value is more likely to vary, and by larger amounts. They also come with no guarantee of investor success.

Less volatile assets (like bonds or savings accounts - remember FixedRate?) are generally viewed as “less risky” investments. This is due to the fact that their value is much less likely to vary.

The key is to understand your risk appetite and invest accordingly.

Should I panic?

No. Although it may make your heart jump into your mouth to see your portfolio value swing – especially if its going down - it’s important to remember that volatility is part and parcel of the normal market movement.

As we’ve discussed, some assets, like stocks, are inherently more volatile than others, such as bonds. Therefore when you do see the market swing it’s usually best to sit back and remember that, although you may be making losses in the short term, data indicates that in the long term you are more likely to make a profit if you don’t allow yourself to be rattled into making knee jerk changes.

Volatility is actually important within a market, as it allows investors to make a profit if they have invested wisely. Without market movement there would be no profit.

It’s important not to panic and to always make your investment decisions in a measured, rational manner. Although, according to the theory of behavioural economics, human beings feel loss more acutely than victory, it’s important not to give in to instinctual urges when it comes to your investments.

Oval Money does not provide financial advice. If you need further information we suggest you look for expert advice.

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