When movement in the stock market is up one day, noticeably down for the next week, then appears to be traveling upwards again, only to spiral downwards again, that’s what traders and investors call stock market volatility. However, it’s important to understand this movement is not necessarily bad for investors.
What Is Market Volatility?
Market volatility is the statistical measure of a market or security’s tendency to rise or fall sharply within a short period of time. Measured by standard deviation, volatility can be caused by the imbalances within trade orders in one direction or another. Volatile markets are characterized by wide price fluctuations and/or heavy trading. Although there are inherent negative aspects, believing all indicators of volatility are negative is dangerous.
Volatility can cause new investors to question his or her own investment strategies strictly due to short-term fear. It is crucial for investors to understand that volatility is inevitable and attempting to navigate around it is risky.
Markets tend to move up and down in the short-term and volatility should not be the deciding factor as to whether investors should exit immediately or not. With a strong understanding of volatility and its causes, investors can potentially take advantage of investment opportunities from volatile markets.
Ignore Short-Term Chaos and Leave Investments Until the Volatility Passes
One effective method commonly used in times of market volatility is to stay the course despite the current overreaction of the market. Even though this may seem lazy and counterproductive, it may insulate you from losses associated with attempting to time the market. It is virtually impossible to time the top to determine when to get out, and just as difficult to discern the bottom and when to get back in and invest again. Typically, you would be better off to stay the course than attempt to time things and not do it well. This bad timing can further worsen your losses during these volatile times.
Purchase Additional Shares at Lower Prices
Market volatility can also create opportunities for investors with long-term investment strategy. Downward market volatility presents investors who are bullish and believe markets will perform well in the long-run with the opportunity to purchase additional shares at lower prices. Increasing your position at a discount can be a very powerful strategy. Essentially, you are lowering your average cost per share of that particular security. By making additional investments, your opportunity to increase your returns over time will be higher. Although this may sound or feel counterproductive at the time, it could add significantly to the investor’s performance.
Stick to and Review Your Investing Plan
Have a plan in place outlining your goals, objectives and timeline before you need it and review it regularly to ensure it serves you well during all types of markets. This will help you navigate through periods of uncertainty when many people are panicking or acting out of fear. Volatility is not all bad, as long as you are prepared to take advantage of the unique opportunities it brings.