Use Volatility To Your Advantage

Usually volatility in the markets is something that investors abhor. Indeed, managing volatile markets requires lot of skills. Karan Bhojwani and Vinayak Gangule explains how volatility can be your friend and why one need not fear volatile markets.

When we think about equity markets, the first word that comes to any investor's mind is “volatile”. The most common reason why a lot of investors avoid participating in equity markets is because they cannot handle the volatile nature of equity markets on their own. The outcome of not being able to manage volatility properly in equity markets is that the investor experiences huge losses in the markets and eventually gives up on the asset class itself.

Matured investors do not chase returns and evaluate stocks on risk-adjusted returns basis. Volatility (riskiness) is almost always factored in while making investment decisions by matured investors. Majority of investors do not factor in volatility and hence are taken aback when suddenly the stock prices tumble. Says Mrinal Roy, “I have been in markets for more than a decade now, but I have never understood how to read volatility in markets. Almost always I have been caught on the wrong foot. Whenever I thought prices will be less volatile, the volatility jumped higher and vice versa. I wish I had skills good enough to read the market volatility so that I could build my positions using the insights.”

What is volatility and which tool indicators can be used to profit from volatility?

There is a well-known adage: In order to make money in the stock markets, there must be price movement! Fortunately, price movement is a constant in the markets. However, the degree at which prices move varies. Sometimes the tone of the market is relatively quiet, while there are times when prices move at an above average speed. In simple terms, volatility can be described as ‘the speed at which price movements occur’.

Just as a coin has two sides, volatility also has two sides; first, it provides opportunity to make more money, while on the flip side, it increases the risk as well.