What is volatility?

Volatility is the number and size of movements in trading prices over a period of time. The larger the movements e.g. 30% up or down, the more volatile the market is considered to be. In this way, higher volatility is often associated with a riskier investment, while a more calm and steady increase in price would be considered a less volatile and safer option.

But you can’t make money in financial markets without prices moving. Considering volatility is a lot like driving a car.  You’re never guaranteed a smooth trip from beginning to end; you may drive over a pothole or along a bumpy road but these periods usually don’t last very long. However, if you suddenly swerve to avoid an animal or obstacle in the road, your movement becomes harder to correct, increasing the likelihood you’ll lose control and crash.

Some routes along a motorway come with fewer risks than opting for a path around the houses. Assessing the risks that come from these less-driven paths and planning for any eventualities is a lot like how volatility is planned for and measured in the financial markets.