Volatility is one of the most common industry-specific jargons, perennially used in the stock markets. Stock market and volatility go hand in hand. Despite having heard the term volatility frequently, the majority of us fail to understand its precise meaning. Volatility is the rate at which the price of financial security or index increases or decreases over a particular period of time for a given set of returns. It is a statistical measure generally measured as either the standard deviation or variance between returns of the same security.
If a company’s share price fluctuates rapidly with big erratic swings in either direction, it is termed to have high volatility. Conversely, if the share price is stable and moves in a relatively narrow range, it is said to have low volatility. In the majority of the cases, the higher the volatility, the riskier the security as the price is expected to be less predictable. Stock market volatility in many instances is driven by economic and political factors, government policies, industry or sector-specific factors, company performance and news. Historical volatility represents the degree of variability in the returns of security and is based on historical prices.
However, volatility is an investor’s friend. It helps to gauge the fluctuations in markets that may transpire in the future. To quote eminent American author and investment advisor John Train, “For the investor who knows what he is doing, volatility creates opportunity.” For investors who have a firm belief in the stock market’s potential to generate healthy returns, in the long run, downward market volatility furnishes a chance to invest in securities at lower prices and attractive valuations. Similarly, investors can take advantage of upward market volatility to book partial or complete profits and invest the proceeds in other assets that present greater opportunities.
Understanding Market Index
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