Seth Klarman, the American investor supposedly worth over $1.5 billion, once said: “Volatility is not risk. And historic volatility does not necessarily project future volatility.”
The point he makes is that you need to understand that volatility can be an investor’s friend, as much as an enemy. Plus, not all past instances of volatility work as good predictors for what might happen today. But how can you benefit from market volatility as an investor?
Well, in this guide, we’re going to run through what causes market volatility so that you can form better strategies to cope with it, and potentially use it to your favor. Let’s begin.
Causes of Market Volatility
There are at least four main causes of market volatility which are:
- Company performance
- Sector and industry factors
- Government influence
- Natural disasters and pandemics
It is often the case that a combination of two or more of these factors combine to create unique volatility arrangements. Thus, it’s important to understand each category to better predict market volatility when you are investing. Let’s explore these factors in more detail:
Company Performance
Volatility can begin at the company level due to internal factors. For example, if a large company announces major losses in one quarter, then its stock price may drop significantly and this can affect market prices too.
If a company lands a huge contract, this could send the stock price soaring. So it’s important to stay wide awake to any announcements or news concerning the companies you follow and invest in to predict volatility in the markets.
Sector and Industry Factors
The next stage up where market volatility can spawn is at the sector and industry levels. For instance, a company might announce they have a new technology that makes others pretty much redundant. If this happens then an entire sector and industry may lose a massive amount of market value.
We could see such a thing happening in the already volatile world of crypto. As blockchain technology advances, there could be a point where investors see Bitcoin and other similar cryptos as a dire option and so jump ship.
Government Influence
There are numerous ways that governments can influence volatility in the markets with their economic policies and political activities. A recent example of this is when UK prime minister Liz Truss announced her “mini-budget.” This budget spurned a massive reduction in the value of the pound for a short period as investors were possibly scared of the implications of what was in the budget.
But even the smallest of announcements politically can shape markets in volatile ways. Since the U.S. has such a huge influence economically, a speech by the president of the U.S. can have loads of clout on market activity.
Natural Disasters and Pandemics
There have been times when natural disasters and pandemics have hit the markets hard. Not too long ago we had the coronavirus pandemic that tore the markets apart across the globe.
Also, things like hurricanes and earthquakes can create volatile stocks and market situations. The main reason for this is that natural disasters can destroy vast amounts of many companies’ tangible assets.
Other Factors
Of course, there may be various other factors that may cause market volatility. We just mentioned a few of the more prominent influencers.
Banks and bankers can have a strong influence on the market in a number of ways, for instance. Their perceptions count as they deal with the markets on a daily basis.
Sometimes markets get spooked or over-enthusiastic by certain banker behaviors that set a trend for other bankers to follow suit selling or buying stock. There are also cases where bankers abuse the system and bend the rules, which can end up with catastrophic consequences like in the 2008 financial crisis.
There’s also been the rise of high-level influencers who can affect the market with a single tweet, for example. Elon Musk is one such influencer who can say things and change market perceptions in a heartbeat. Andrew Tate is another character who had an influence on a platform called Rumble’s stock price (a rise) when he joined the platform.
How to Use Volatile Markets to Your Benefit
A popular way to engage with volatility in the markets is through hedge funds. Global macro hedge funds are particularly interesting to look into.
A hedge fund is like an investment portfolio that people can invest in. It has a hedge fund manager that makes managers decisions on trades and the types of trades they carry out within the hedge fund.
Hedge fund managers may take long or short positions. They may also look into commodities, equities, and securities pricing to see if there is potential in the markets to make some money.
For someone who is interested in investing but worried about volatile markets, investing in a hedge fund can be a great option. Fund managers are always looking out for weaknesses and gaps in the market to exploit in complex ways that the average investor will not know about.
Investing Long-Term
If you take a long-term investing approach, market volatility might not be such an issue for you. Of course, it can feel worrying to see your stocks lose loads of value in the short to medium term. Yet, if you believe the intrinsic value of your investment is going to be good in the long run, then you should trust in your instincts and wait out the rough times for better days to come.
A prominent and very successful long-term investor who isn’t so unsettled by volatility is Warren Buffet. He loves volatility as it can be a great opportunity for him to get undervalued stocks.
Embrace Market Volatility
You can either be afraid of market volatility or use it to your advantage. Just understand where the volatility comes from and be confident in the investment strategy you choose to ride out any storms. Also, make sure to check out some hedge funds.
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