Volatility is the rate at which the price of a security increases or decreases. If the prices of a security fluctuate rapidly in a short time span, it is termed to have high volatility. If they fluctuate slowly in a longer time span, it is termed to have low volatility.
2017 was a year of record low volatility; the lowest year since 2005 and a year that returned healthy growth in stock markets. Following the lows of 2005, stock markets continued to grow for another 18 months, so more growth in current markets is not impossible. However, there is a danger now that investors might become complacent and be lulled into a false sense of security. Markets are always dangerous when making money sounds easy.
Many analysts expect volatility to pick up this year but the majority only expect a return to more normal levels. They think that as the year progresses, business surveys will show that we are changing from expecting increased growth to expecting lower growth. Analysts say this will most likely result in a return to more normal market corrections.
There are currently structured products available that allow investors to bet on volatility. Currently, most bets seem to be placed on volatility staying low or getting even lower and this is a cause for concern.
James Bateman, chief investment officer for multi-asset at Fidelity, says he fears that markets are trending up too easily. He says that this is all fine, until it goes wrong. When people are betting one way on something and then the market starts moving the other way, everyone suddenly scrambles for the exit, and it’s going to be a pretty narrow door. This becomes a self-fulfilling prophecy and if volatility starts going up, lots of people in the products betting on low volatility are going to try to jump ship at the same time. That alone will create a vicious spike in volatility and one of the things that could unwind the current uptrend, is a panic over the levels of volatility.