Stock Market Volatility – Definition & Nature

An economy consists of three basic sectors, agriculture sector, manufacturing sector, and services sector. These sectors jointly shape the Real Economy of a society. Government plays an important role in regulating all these sectors. In addition, governments of modern societies run a few economic activities of grave importance such as defense, currency and some public goods.

The monetary sector is essential side of every economy. Monetary sector does not provide, directly, any tangible benefit to a person, but, it is unavoidable for smooth working of product and service sectors. The inclusion of monetary or financial instruments portray the complete and understandable picture of an economy. Financial sector removes multiple frictions between individuals/institutions/states through defining prices, rates of return and exchange rates. Stock markets are vital aspect of financial economy.

They provide avenue to companies for capital collection, in return, investors get dividends from companies. The byproducts of stock market are speculative activities and profound learning of involved economic agents. Financial Markets are now an inevitable aspect of every economy. There are five big players of a stock market – speculators, investors, firms, brokers and government. Volatility or uncertain extreme response on an event of all or one significant players creates the volatile environment in the market.

Technically speaking, “volatility is a statistical measure of the dispersion of returns for a given security or market index. Volatility can either be measured by using the standard deviation or variance between returns from that same security or market index. Commonly, the higher the volatility, the riskier the security or market.”

Bases of Stock Market Volatility

There are five significant players of a stock market – speculators, investors, brokers, business firms, and government or regulatory bodies. Speculator are volatile on account of personal emotions such as greed, fear, panic and dogmatic dispositions. They manifest volatility due to peculiar beliefs about patterns of prices/volumes and decisions of firms and governments, now and then. Moreover, speculators want windfall stable return, come what may.

Investors manifests volatility on account of lack of information, knowledge and understanding. Investors naively or wrongly channel trusts / expectations towards some firms, indices and regulatory bodies. Brokers’ volatility is normally outcome of unjust competition among broker firms, rent seeking activity of some broker houses to avoid a few regulations, and exploitation of traders.

Business Firms may show volatility in lieu of low productivity of inputs, decision-making framework of top management and poor regulations by government. Global economic conditions also affect local firms’ behavior and its share prices, positively and negatively. Government manifests extremity because of multiple political expediency. The large business players/associations pressurize government for specific economic policies.

Investors’ Beliefs & Market Uncertainty

A belief is an invisible force behind actions or deterrent against multiple stimulus. A belief is shaped because of knowledge, observation, experience, and contemplation. Whenever a belief is established, it feeds or gives strength to human reason and intuition. Reason and intuition are naturally endowed weapons for any life struggle, both economic as well as non-economic.

Stock Market, too, is complex functioning of thinking and intuitive market players. The conflicting reasoning of a market player or/and dormant intuitive mindset of someone creates a wave of uncertainty among all participants of financial market. The sustained uncertainty means chaos in the market. However, the final outcome of chaos is creation of relatively better and more significant beliefs.

There is possibility of wrong belief or conclusion about working of financial market on account of some rational/intuitive fallacy. The recurring phenomenon of “Market Correction” activates the invincible warriors of stock market, that is, Time and Patience. Consequently, it follows reasonable / intuitive belief pattern.

It is noteworthy that the very existence of skewed movement of price / volume is permanent feature of a share market due to conflicting human nature, so that, a share market is permanent battle ground for all market players. The ultimate winners are always time-efficient and patient.

Investors’ Working & Market Uncertainty

Investors are significant and big player of an economy. They are building blocks of stock market outcomes. The individual investor is final basis of every trading activity of the market. They trade with independent and definite mindset. Market structure develops a reinforcing interdependence among investors, the interdependent investment approach shapes a collective mindset of investors.

The collective mindset gets a personification in few smart people. These smart individuals are leaders of financial sector. The maximum benefit accumulation appetite among some big investors creates uncertainty in the market, now and again.

The bull-bear phenomenon is permanent feature of a share market. The phenomenon can be managed, to some extent, by efficient-effective regulators of the market. The proactive role of regulators is inevitable to create win-win environs for all and sundry.

Conclusion – Safety Measures

At individual level, the insightful understanding of shares, technical and fundamental, and proactive response on price/volume movement is basic to avoid aftermath of market volatility. However, the long run solution is traders’ stability, both mental as well as behavioral.

The impulsive and non-strategic approach during buying/selling badly affects the traders especially at the time of pressures. The intuitive, rational and strategic stance during trading lessens the effects of buying/selling pressures on individual traders, the said attitude may affect market volatility, positively. At collective level, a comprehensive approach is required to manage manifold volatility.

Government / Regulatory Bodies can play a preventive as well as corrective role to harness it. The preventive steps are needed to avoid stock market volatility and corrective steps are required to manage the befallen troubles on account of volatility. The meritorious stand of government / regulatory bodies are vital for disaster management. Normally, the merit killing aggravates the situation due to competitive and global nature of financial markets.

Muhammad Ilyas Qadri
Silverline Management Consultants & Software Engineers (SMCSE)


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