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Back to basics: Volatility




All investments carry a degree of risk. Equity investors, for example, are up against the risk of fluctuations in the market price of shares. In the investment world, these fluctuations are referred to as market volatility; the larger the fluctuations, the higher is the deemed volatility.



1. WHAT IS VOLATILITY?

An equity investor can refer to the CBOE Volatility Index (VIX) which measures investors' expectation of the volatility of the S&P500 Index. As per Fig. 1, the blue line shows the average market volatility over the past 10-year period. The big spikes in the volatility index can be attributed to periods of risk aversion due to a variety of reasons such as the 2008 Global Financial Crisis ("GFC"). Since 2012, market volatility has generally been below the 10-year average despite the occasional spikes. Throughout 2017, volatility was at record lows and only rose in February 2018 following rising inflation fears. It has since receded.



eastSpring-fig1



2. WHAT AFFECTS VOLATILITY?

Although volatility is inherent in investments, during periods of economic, political and financial crises, it goes up significantly as seen in Fig. 1. The past two decades have been marked by bouts of volatility triggered by such crises. Furthermore, where previously economic and financial crises used to be few and far between, they now occur much more frequently. For example, the 2008 GFC struck barely a decade after the early 2000s' dot-com crash, which in turn happened just a few years after the 1998 Asian Financial Crisis. These events were mostly unrelated to each other but they underscore the unpredictability and inherent volatility of markets.


Volatility can also be triggered by expectations or even rumours as a result of human nature and behavioural biases that have been shaped by good and bad experiences. Hence when markets are rising, the greed factor kicks in and when markets fall, fear sets in. Such swings in emotions can cause investors to engage in irrational buying and panic selling which in turn increases the volatility.


3. VOLATILITY OF MARKETS

While the VIX can be used to measure the expected volatility of the S&P 500 Index, the standard deviation is a commonly used measure of the historical volatility of equity markets. Put simply, this measure shows how much an investment's return varies from its average return over a certain time period. This measure is useful when comparing across and within asset classes and helps investors make informed choices.


Historically, Asian and Emerging markets are more volatile than the developed markets such as US and Japan. However, this does not mean that investors should avoid these markets. Diversification, including exposure to low volatility strategies can give investors exposure to attractive opportunities in these markets, minus the extreme swings in prices.



eastSpring-fig2

Sources: 1Thomson Reuters Datastream, Chicago Board Options Exchange as of 12 June 2018. 2Bloomberg as of 14 June 2018.



This document is solely for information and may not be published, circulated, reproduced or distributed in whole or part to any other person without the prior written consent of Eastspring Investments (Singapore) Limited ("Eastspring Singapore") (Company Reg. No: 199407631H). This information is not an offer or solicitation by anyone in any jurisdiction in which such offer or solicitation is not lawful or in which the person making such offer or solicitation is not qualified to do so or to anyone to whom it is unlawful to make such an offer or solicitation. It should not be construed as an offer, solicitation of an offer, or a recommendation to transact in any securities mentioned herein. The information contained herein does not have any regards to the specific investment objectives, financial situation or particular needs of any person. Investors may wish to seek advice from a financial adviser before any making investment decision. In the event that investor chooses not to seek advice from a financial advisor, he should consider carefully whether the fund in question is suitable for him. Past performance is not necessarily indicative of future performance. Any prediction, projection, or forecast on the economy, securities markets or the economic trends of the markets is not necessarily indicative of the future performance of Eastspring Singapore or any funds managed by Eastspring Singapore. The value and any income accruing to the investments, if any, may fall or rise. An investment is subject to investment risks, including the possible loss of the principal amount invested. Whilst we have taken all reasonable care to ensure that the information contained in this document is not untrue or misleading at the time of publication, we cannot guarantee its accuracy or completeness.


Any opinion or estimate contained in this document is subject to change without notice.
Eastspring Singapore is an ultimately wholly-owned subsidiary of Prudential plc of the United Kingdom. Eastspring Singapore and Prudential plc are not affiliated in any manner with Prudential Financial, Inc., a company whose principal place of business is in the United States of America.


All information here is for GENERAL INFORMATION only and does not take into account the specific investment objectives, financial situation or needs of any specific person or groups of persons. Prospective investors are advised to read a fund prospectus carefully before applying for any shares/units in unit trusts. The value of the units and the income from them may fall as well as rise. Unit trusts are subject to investment risks, including the possible loss of the principal amount invested. Investors investing in funds denominated in non-local currencies should be aware of the risk of exchange rate fluctuations that may cause a loss of principal. Past performance is not indicative of future performance. dollarDEX is affiliated with Aviva but dollarDEX does not receive any preferential rates for Aviva products as a result of this relationship. Unit trusts are not bank deposits nor are they guaranteed or insured by dollarDEX. Some unit trusts may not be offered to citizens of certain countries such as United States. Information obtained from third party sources have not been verified and we do not represent or warrant its accuracy, correctness or completeness. We bear no responsibility or liability for any error, omission or inaccuracy or for any loss or damage suffered by you or a third party (including indirect, consequential or incidental damages) arising in any way from relying on this information.

This information does not constitute an offer or solicitation of an offer to buy or sell any shares/units.
This article has not been reviewed by the Monetary Authority of Singapore.

Information is correct as of 07/08/2018.