Why is Price Volatility not Risky?

Before we take up this topic, let’s understand what price volatility actually is. The term ‘price
volatility’ is used to describe the price fluctuations of a commodity in the market, it is
measured by the day-to-day percentage difference in the price of a commodity. This degree
of variation, and not the level of prices, is what defines a volatile market. So, putting it in
simpler terms, volatility provides a measure of price uncertainty of various goods in the
market.

If the price remains reasonably stable, the security will have low volatility. A highly volatile
security is the one which hits new highs and lows abruptly, moves erratically, and can be
defined as the one with rapid increases and dramatic falls.

I’m sure we have all witnessed the way stocks have gone from the bottom during the times of
recessions like the 2008 financial crisis to hitting all-time highs during other times, blinkered
with many other ups and downs in between. This is why we often refer to stocks as volatile.

Let’s take a recent example of extreme price volatility which was caused due to the COVID-
19 pandemic, this market volatility has caught many investors off-guard. This volatility
forced many investors to re-allocate the assets in their portfolios in order to introduce some
amount of diversification in their portfolios.

Now, prior to discussing why price volatility might not be risky, let’s understand what leads
to price volatility in a market.

A volatile market might most often be the consequence of imbalance in trade orders in one
direction, for instance, all buys and no sells. However, there are several other factors that
might lead to price volatility, like changes in economic policy, or the public relations of a
company, political developments all over the world, volatility overseas, economic crises, and
many more.

Finally, let’s take up why price volatility might not be risky.

Stock market volatility is arguably one of the most unappreciated concepts with regards to
investing. I understand why a volatile stock might seem like an unnecessarily risky
proposition, considering how people often tend to experience the pain of loss more acutely
than the happiness that comes from a gain.

However, what there is for us to know and understand and what experienced investors are
already aware of is that market volatility actually provides numerous money-making
opportunities for a patient investor. Investment is inherently about risk, and for every trade
there is a risk for success and failure. And, without volatility in the picture, there is a lower
risk of either.

So, for years volatility is almost universally believed to be a proxy for risk. However,
volatility is far from being synonymous with risk. This concept only represents the shorthand
version of reality rather than tools which always work, or even usually, are beneficial.
While many more conservative investors tend to favor a long-term strategy popularly known
as buy-and-hold, wherein a stock is purchased and then held for long periods of times, to reap
the profits of the company’s growth. This approach is based on the assumption that while
there may be ups and downs in the market, it generally produces returns in the long-run. 

While a highly volatile stock may be a more anxiety-producing option, a small amount of
volatility can actually lead to greater profits for an investor. As the price rises and falls, it
provides an opportunity for the investors to buy stock in a concrete company when the price
is very low, and then wait for cumulative growth down the road (perhaps in the near future).

And, for the short-term traders, volatility can even be more useful. These traders are
constantly monitoring the change in prices, second-to-second, minute-to-minute, and if this
doesn’t happen, there won’t be any profit. Even for swing traders, who work with a slightly
longer time frame, probably days or weeks, market volatility is important for them as well.

Volatility can bring points of entry for someone whose investment strategy and time horizon
are for long periods of time. When it come to bullish investors, who imagine markets will
achieve better in the long-run, downward market volatility provides the prospect to buy more
shares at comparatively lower prices.

By increasing investment in securities when there’s a discount, one would lower the mean
cost per share and increase profits from it over time. The stage of market volatility can prove
to be a good time to put money in some extra additional funds and liquidate some
underachieving assets.

We cannot just disregard volatility, it is an important part of the market. The up and down of
prices forms the DNA of the market. One needs to understand that the process of fluctuations
in price, might not always have a downside. Once people stop seeing this simple inevitable
phenomenon as disadvantageous, they will start seeing it as opportunistic.

For people who have been in the investing business for long, volatility is a friend rather than
a foe. Daily variabilities of price or volatility shouldn’t act as a disturbance in the work of
evaluating the intrinsic value of enterprises. However, an investor make use of this sharp
volatility as an opening to buy cleverly when prices fall abruptly and to sell smartly when
prices finally rise, which won’t take very long.

So, when markets turn volatile, you shouldn’t panic, and keep stocking up equity assets, and
build a diversified portfolio for yourself. You should always try and use the market
conditions to your advantage, because it’s important to understand the probable benefits of
investment opportunities that surface from price volatility in the market.