As a beginner, it’s essential to know the deeper meaning of concepts that traders usually encounter. Sure you may be aware of the trading platforms like the MetaTrader 4, and the best brokers, but there’s a lot more than that.
One of the things you should be aware of is market volatility since it’s a crucial factor that can create an impact when making investment decisions and managing risks effectively.
In this blog, we’ll get to know more about the concept of market volatility, its causes, and other helpful terms that can help you trade successfully.
Table of Contents
What is Market Volatility?
Market volatility is when the price of financial instruments including bonds, currencies, stocks, and commodities fluctuates. One of the misconceptions, when people hear the word market volatility, is that the price is down. However, it can also mean that the market price increases.
As you know, various markets can be volatile. A minute ago, the market price could be up, and the next thing you know, everything’s down. So when looking for a financial instrument, you can look at certain indicators and observe the recent market movement. But you must know how to use the first before you can get the data.
Most Common Causes of Market Volatility
The movement of financial markets is usually affected by factors like the economy, geopolitical events, company-specific factors, and investor sentiments.
a. Economic Factors
The country’s economy can significantly affect the volatility of markets. Some of the economic indicators include central bank policies, inflation rate, GDP status, and employment data. For instance, if there have been unexpected changes in certain policies or whatnot, it can create a ripple effect.
When everything mentioned above is doing well, investors react positively. On the other hand, if the expectations didn’t match, the markets tend to be more volatile.
b. Geopolitical Events
Usually, investors monitor geopolitical events such as policy changes, elections, and international tensions that may potentially impact their investments. Certain changes can affect the markets and increase volatility.
Generally, the government plays a huge role in a country. It’s also the reason why investors are concerned even with the speeches that officials make.
c. Company-specific Factors
From the bigger factors, let’s not forget that the companies can also impact market volatility. Usually, regulatory changes, leadership transitions, reports, and mergers and acquisitions can inflict volatility at the individual company level.
In addition, whether a company’s news is positive or negative, it can still affect the volatility of the markets. So, as an investor, it’s essential to keep track of the latest company changes that may affect the price of the underlying asset you chose to trade.
d. Investor Sentiment
Investors also play a vital role in driving volatility. Additionally, various factors can affect the way investors think. When traders feel fear and greed, it may result in exaggerated market movements.
Since most investors analyse based on various indicators, and when they sense that something will affect the market, the more they react to it.
Volatility Measures
Market volatility is usually computed using standard deviation but Volatility Index (VIX) is also used sometimes.
a. Standard Deviation
The dispersion of returns around the average price movement is computed using the standard deviation. The higher the standard deviation, the bigger the movement of prices. Essentially, it identifies the rate at which the price increases and decreases.
When the price increases and decreases in a short period, it’s considered high volatility while low on the other hand. Meanwhile, it’s important to compute the price movement not just for the current trades but also for the future.
b. Volatility Index (VIX)
As mentioned, aside from the standard deviation, VIX is also used in measuring the volatility of the options market. Additionally, it can determine the future market volatility over the next 30 days.
Strategies for Navigating Market Volatility
a. Diversification
As a beginner trader, it’s recommended that you spread your investment across different platforms to reduce the risks of market volatility. With this, you can have two benefits in one— a diverse portfolio and fewer volatility risks.
b. Long-Term Investing
Since the fluctuations usually happen in a short time, you can also try long-term market investments. Historically, markets recover over time, so when you stay invested for a long time, it can smooth everything out.
So if you’re afraid to risk your capital in the sudden fluctuations of the market price, you can stay longer to avoid them.
c. Risk Management
Implementing various risk management techniques like stop-loss orders and take-profits can be your initial bet. In addition, you should also prepare a well-defined investment plan and appropriate asset allocation.
d. Stay Informed
As mentioned, staying informed about the changes happening in the world that may affect the market is a must. It includes news, economic indicators, and market trend.
Furthermore, nowadays, there are online resources that you can access anytime, so you should take some time to monitor them.
We hope this article helps you get started with getting to know market volatility and other concepts related to it. If you want to add more facts about market volatility or trading in general, don’t hesitate to leave a comment below!
ABOUT THE AUTHOR
Aliana Baraquio has more than 5 years of experience as a writer and market analyst. She specializes in developing beginner-friendly trading techniques and tutorials. Additionally, she suggests FP Markets as the top broker for trading CFDs and Forex.
