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SUNDAY BUSINESS GUARDIAN www.guardian.co.tt AUGUST 9 • 2015
Investing---especially in the stock market---is often com-
pared to a roller coaster, with sickening drops and
exhilarating peaks. But it s better to think of investing s
volatility and risk as a road trip, experts say, with the
terrain of the moment less important than the progress
you are making toward your destination.
Volatility and risk are related but distinct concepts that are
often used by experts interchangeably. By sorting out how
professional investors understand and use each of these dynam-
ics, you ll truly understand the logic behind their recommen-
dations, experts say.
In everyday language, volatility means the ups and downs
in a stock or fund s current valuation. But there s more:
By how much is it up or down?
Over what time period: a day, a week, year over year?
Does daily volatility even out over time, resulting in a
relatively smooth trend line for that fund or stock?
Professional investors calculate many factors into their def-
inition of risk, but when individual investors speak of risk,
they are not usually thinking in theoretical terms, says Mark
Luschini, chief investment strategist at Janney Montgomery
Scott in the District of Columbia. Analysts and fund managers
assess risk in terms of statistical deviations, he says, how much
more or less risky a particular investment is compared with
But usually, individuals definition of risk is personal: "They re
thinking, Can I lose my money? and not, Can I lose my
money on paper with a long-term investment going down for
a while? but, Can I lose my money permanently, absolutely,
like a bond that defaults or a company that goes bankrupt? "
Volatility and risk are emotional minefields because they
feel like forces out of our control, says John C Alexander, a
finance professor at Clemson University.
Volatility is all about what s happening in the market, and
individuals don t have any control over that. But you do have
control over how much risk you take, and "you can be aware
of how volatility changes your perception of risk," he says.
That s why advisers recommend constructing a mixed-risk
The goal, Alexander says, is to include types of investments
that balance out in terms of risk (the classic pairing is stocks,
whose value generally moves with the market, and bonds,
which deliver guaranteed income that is relatively low). But
you can balance risk even with a category of investments,
such as buying a fund of stable, proven stocks in large companies
along with a fund composed of young companies with high
but unproven growth potential, Alexander says.
Market risks break down into two main subcategories, says
Jason Hovde, senior director of certification and designation
programmes for the College for Financial Planning in Centennial,
Systemic risk involves big factors that affect swathes of the
market, such as interest rates, currency exchange rates and
one-time events like the 2010 flash crash. You can t control
systemic risk, and you can t diversify your way out of it, Hovde
says. Advisors, analysts and money managers express systemic
risk by using the term "beta" to describe how well an investment
is doing compared to an index that reflects the big-picture
"You re measuring either an individual equity or a portfolio
against a benchmark. And beta will tell me how volatile that
portfolio is against the index. If I have a portfolio of large-
cap stocks, the (Standard & Poor s 500 index) is my benchmark.
If the S&P goes up 10 per cent, then I d expect my portfolio
goes up 10 per cent," Hovde says.
The other type of risk is unsystemic, or tied to a specific
investment. That s how well a particular stock or fund does
compared to its peers. Because much of that performance
pivots on management, "those types of risks can be diversified
away," Hovde says. "If you have large, well-established com-
panies and a few growth companies in different sectors, you
will have some going well when one or two are having problems,"
Don t get tripped up by comparing the amount of risk across
categories---for instance, trying to line up gold with tech
stocks---because risk is only meaningful if you are using correct
benchmarks, Hovde says.
Volatility and risk intersect in investors minds when the
stock market is peaking or dropping, and those periods of fast
change tend to drive decisions geared to get in or out of the
market based less on the actual value of the equities and more
on the momentary direction of the market, Alexander says.
A full market cycle---peak to valley to peak---usually takes
about 10 years, experts say, and that s key context when daily
headlines have you wondering if it is time to buy or sell.
That s why Alexander and other experts say it is essential
to base decisions not on market fluctuations---ie, short-term
volatility---but on your own long-term goals. "Your age, the
liquidation date of your portfolio and your network are three
risk factors not related to the market," Alexander says.
Time is the key factor for understanding what both volatility
and risk mean to you, experts say.
If you re getting worried, take a step back and look at your
long-term goals. "Any given day, the stock market will or
won t reward the underlying fundamentals of a particular
company. Your goals and what you need to accomplish to get
there haven t changed," Luschini says.
Why investors need
to tolerate risk
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