During the times the stock markets are volatile, a number of investors get into a panic mode and start doubting their investment strategies. This holds true with new investors who often get tempted to pull out their investments and wait for the right time to dive back.
One thing which every investor needs to know is that the market volatility is unavoidable. It is the nature of the stock markets to have highs and lows especially in shorter duration and trying to time the market is difficult.
The best solution in such volatile situations is to aim for long term investments and ignoring the short term market fluctuations.
For many experienced investors this is a proven strategy, but at the same time, they have a clear understanding of the markets and a set of guidelines that help them overcome emotions like greed and fear.
Why is market volatile
Before we study the reasons that cause volatility in stock markets, let us understand what volatility is. Volatility is a measure of the market’s tendency to fall or rise sharply within a short duration.
Volatility in stock markets can occur due to high price fluctuations and heavy trading. Such a situation often occurs due to an imbalance of the trade orders that happen only in one direction.
Experts also suggest that volatility also occurs when there are economic releases, news related to a company, or due to results of unexpected earnings. Any sudden news flows which were not expected by market participants generally causes volatility as investors don’t like uncertainty.
Experts who study the markets based on behavioral approach say that volatility also occurs due to the change of mind of the investors.
Hence, it is very difficult to state the exact causes of volatility in the market because of which it gets important for investors to learn investment strategies to deal with volatility in the market.
How to deal with it?
One of the best strategies to deal with the market volatility is to stay invested for the long term and ignore the short term movements. Implementing this can be harder than it sounds as, during bad market phases, portfolios can show huge losses and can test one’s nerves to hold on to such losses.
Investors also need to avoid the misconception that any stock bought for long term investment can make money. One needs to study and understand the fundamentals of companies that one wish to buy.
If the company has healthy financials (strong balance sheet, consistent earnings, free cash flows and good return ratios), its stock price will not get affected with the short term market fluctuations.
Such downfall in the markets is indeed a good opportunity for investors to buy stocks if the company is good for long term investments.
When the markets are not moving in the direction predicted or not in their normal way, investors need to be careful about the kind of orders they choose. When placing an order, investors can take the aid of limit orders as they help reduce the losses that can occur due to incorrect quotes.
Conclusion
To conclude, investors have to be aware of any potential risk that can occur during stock market volatility. One can stay invested only if you are confident about the investment strategy you have implemented which will not get shaken by any adverse movement in the market.
Hence proper research and advice are of utmost importance to deal with market volatility.
Despite volatility over the years (as seen from the 31% Standard deviation), Sensex has delivered 11% CAGR over the last 22 years.
(The writer is the MD & CEO - Broking & Distribution at Motilal Oswal Financial Services Ltd)