Stock market volatility can cause fear and anxiety, even for savviest investors. But understanding the causes of large price swings can help you stay calm and focus on your long-term financial goals.
Volatility is the extent to which a security’s return moves around its mean value over time. Several different metrics measure it, but one of the most common is standard deviation. This measures how much a security’s returns vary from their average, and it can be reported on a daily, weekly, monthly or annual basis. Other metrics, such as beta or risk tolerance, can also provide insight into a portfolio’s level of volatility.
A number of global events can contribute to stock market volatility, such as wars, terrorism and tensions between countries that impact global economies and businesses. Major natural disasters like earthquakes, wildfires and hurricanes can also trigger turmoil.
Political uncertainty can also add to investor nervousness, particularly in advance of elections. In the United States, presidential and mid-term election years can create extra volatility, though this typically smoothes out afterward.
A spike in implied volatility can signal that investors expect bigger price movements ahead. It’s calculated using options pricing, and it’s often referred to as the “fear index” (the Cboe VIX). In addition to understanding your tolerance for volatility, taking some preventive steps can also help you ride out periods of high volatility. This includes paying down credit-card debt, keeping an emergency fund and staying diversified.
