5 minute read

Figuring out how to handle price swings is just as important as investing in the right assets. The thing is, when you get caught up in day-to-day market movements, it’s easy to confuse risk with volatility – and that can throw you off track in reaching your financial goals.

First things first: what is volatility and risk?

• Volatility refers to how much an investment’s price swings. High volatility means big price changes in a short time, and vice versa. Factors like market sentiment can drive volatility, but it doesn’t necessarily mean an investment is risky.

• Risk is about the potential that you might lose money and never regain it. Unlike volatility, which is usually temporary, risk can mean a forever loss. For instance, if a company goes bankrupt, the value of its stock could drop to zero.

Many financial theories equate risk with volatility. That’s largely because volatility is quantifiable and fits neatly into mathematical models. But volatility is just one aspect of risk and often a poor indicator of the real dangers that investors face.

Why does the difference matter?

It’s easy to see why people mix up risk and volatility. If you have a short investment timeline and are invested in something volatile, what might be just a bump in the road for someone else could be risky for you – you might have to sell when prices are low, locking in a loss.

In other words, stocks might not be risky if they align with your long-term goals – and avoiding volatility altogether can be a mistake if your safer assets bring in only small returns.

Understanding the differences can also help you to see the bigger picture. For example, during the 2008 global financial crisis, the market experienced extreme volatility. Investors who realised that it didn’t equate to permanent risk were better able to hold on to quality investments and benefit from their recovery.

How can you weather a market rout?

If you understand that a price drop is due to volatility and not an inherent risk, you might seize the chance to buy valuable assets at a lower price, benefiting when the market eventually rises. Here are some things you can do to help:

1. Stop checking your portfolio constantly. When the market is selling off (more on this in our Simply Finance below), the red on your screen can cause you to panic. But you should never be forced – especially by emotion – to sell.
2. Stay informed but detached. You don’t have to check your portfolio constantly, but keeping on top of market news ensures you’re aware of what’s happening. But it’s important to discern between noise and proper, data-driven risk – remember that day-to-day price changes don’t necessarily reflect long-term value.
   
3. Know why and what you’re invested in. Ideally, your portfolio shouldn’t be based on the latest trend. Before investing in any asset, research it to assess the risk involved.
   
4. Invest for the long haul. Staying invested tends to smooth out volatility. With a long enough time horizon, you can turn a market rout to your advantage. Dollar-cost averaging into a well-diversified portfolio (shoutout to our General Investing portfolios!) can help, allowing you to continue investing in all sorts of market conditions.

This article was written in collaboration with Finimize.

🎓 Simply Finance: Sell-off

A sell-off is when a lot of people decide to sell their investments all at once. This can be triggered by bad news, economic worries, or sometimes just because investors get nervous. 

Imagine if everyone decided to sell their houses on the same day – prices would likely fall as buyers have more choices. While it can be unsettling, it's a normal part of market cycles – for patient investors, a sell-off can sometimes offer a chance to buy assets at lower prices.