Market volatility can make investors feel unsettled and uncertain if they don't fasten their seatbelts in time, much like being on a turbulent flight. Although there may be innate negative aspects, but believing that all signs of volatility are negative can be dangerous or even drive a beginner investor to question his or her investment strategies due to short-term fear1. Therefore, it is important for investors to recognise that market volatility is only natural and inevitable but there are ways to manage their portfolio to ride the tide.
What is market volatility?
It is a measure of movement in an asset's price and reflects the level of risk associated with that particular asset or market2. In other words, volatility is how fast prices move and by how much. With volatility also comes investment opportunities. Very often, big swings in market volatility reflect short and medium term uncertainty while markets with low volatility are seen as more reliable and stable, representing longer term investment opportunities2. This can also be gauged using the VIX Index, also commonly known as the "Fear Index".
Investors can use the CBOE Volatility Index (VIX) as a gauge to measure market risk, fear and stress before making any investment decisions or identifying opportunities, as it is calculated real-time based on live prices of the S&P 500 index3. The S&P 500 is extensive enough to give a good overview of the entire US stock sentiment, which many other global markets are usually influenced by it. VIX values greater than 30 are usually associated with large volatility from increased uncertainty, risk and investors' fear3. VIX values below 20 are usually referring to stable and stress-free periods in the market3.
Here are 3 simple steps investors can take to manage their portfolio in volatile markets.
1. Stay for the long run and eliminate emotions
One effective way to ride out the volatility is to simply stay disciplined and maintain a long-term view for your investments despite the short-term chaos or overreaction of the market1. This helps you to stay invested and minimizes speculative movements which in turn, may shield you from losses associated with attempts to time the market. It is almost impossible to determine when is the best time to exit and enter back in to invest again. Hence, investors should not review or monitor their portfolios too often and create unnecessary panic for yourself but wait till the volatility passes, as it will pass. Let's take an assumption based on a 10-year period where the market rallied for 7.5 years and only had a downturn for 1.5 years. Hence, the crucial part for investors is to be able to tide through the 1.5 years in order to reap the overall benefits from the 7.5 years of bull-run.
2. Don't stop diversifying
Probably one of the most commonly used investment strategy, but how many investors truly stick to it? This same strategy is equally effective to weather volatility over the long term and investors can achieve a well-diversified portfolio through strategic asset allocation. By allocating your investment into different asset classes such as equities and bonds as well as geographic regions such as US and Asia ex Japan, it helps investors to manage volatility according to their risk appetite while minimising unnecessary panics in their investing journey. The best way is to stick to your agreed allocation and rebalance your portfolio at least once a year.
3. Consistency wins
If monitoring the VIX index is too much for you, there is a no-brainer method but again, you need to stick to it. You simply invest a fixed amount every month and keep doing it for a long time. This is called Systematic Investing which is based on the concept of averaging your investment cost over time, also known as dollar cost averaging. When markets drop, fund prices are low and the sum you invest buys you more units of the fund and less when market is up. When you redeem your investments eventually, all units fetch an equal amount and your gains are potentially higher because you were able to invest at a lower price during volatile periods4.
With these strategies in mind and understanding how volatility works, investors can still enjoy market volatility and the investment opportunities that come with it. Unit trust itself is already diversified as it is a basket of assets that is usually actively managed by a professional fund manager. You do not have to worry about the allocation within the fund but you do need to access your own risk profile before deciding how much to invest in each fund.
When it comes to investing, always ask yourself if you can accept the risk and sleep at night. More often than not, we think we can but we actually can't. If you are unsure, open an account with us and try out our risk questionnaire to find out your risk appetite for free.
If you are certain of your risk appetite, our intuitive Fund Finder has a wide selection of close to 1,000 funds from almost every asset class and geographic region that you can select for your portfolio diversification. You can choose to invest a lump sum or start a Regular Savings Plan (RSP) with as low as $100/month if you prefer the systematic investing approach or both - whichever your prefer.