Understanding Volatility: A Key to Confident Investing

February 24, 2025 Economy and Investing By: Gavin Shoults

When it comes to investing, the word “volatility” often evokes a sense of uncertainty or unease. But what exactly does it mean for your investments? Whether you’re navigating market highs or bracing for downturns, understanding the true meaning of the term can help you feel more confident in your investments and weather the inevitable ups and downs of the market.

We use this space to demystify what volatility really means, how it’s measured, why it matters for your investment strategy, and how we account for it in our approach to investing.

Growing financial bar graph. (3d render)

What Is Volatility?

Volatility is a word often used when discussing investments, but what does it really mean? Simply put, volatility is a measure of how much and quickly the price of an investment moves over a given period. This doesn’t just mean how much the price changed over the period, but also includes how it got there. For example, an investment that one day doubled in price, and the next day fell by half – putting it at the original price – would be considered far more volatile than an investment that hadn’t moved at all, even though they both started and ended at the same value. It’s important to note that volatility is not associated with a direction, so a large increase or decrease in value over a short period would both be considered a volatile move.

While volatility can apply to individual investments, it can also be used to describe the entire stock market, which is appropriately referred to as market volatility. Some market volatility is normal and important for the proper functioning of investments – with no volatility, investments would not increase (or decrease) in price.

Volatility and Risk

Volatility and risk, although separate measurements, are closely related in the context of investments. An asset whose price is more likely to move quickly and substantially up or down (highly volatile) is generally seen as riskier, as there is greater potential to lose money versus an asset whose price tends to move very little (low volatility). Treasury bonds, for example, tend to have very little price movement and are considered to be very safe investments. On the other extreme would be something like penny stocks, whose price can halve or double in a single day and are typically considered very high-risk investments. Most assets will fall somewhere between these two ends of the spectrum, but they can be very useful for understanding the relationship between the risk and volatility of an investment.

Measuring Volatility

Now that we have established what market volatility is and why it is important, let’s discuss how it is measured. There are mathematical models that can be used to precisely calculate the volatility over a given period using the standard deviation of prices, but the most often used measure is the Chicago Board Options Exchange (CBOE) Volatility Index. More often called the VIX, this metric monitors the price changes of the S&P 500 and is used to gauge the expected price movement over the next year, as a percentage. For example, a VIX reading of 15.0 means that the expected price of the S&P 500 over the next year will be no more than 15% higher or 15% lower than its current price. This reading, of course, does not guarantee any outcome, but rather simply indicates expectations about future market movements given recent market activity.

Volatility and Our Approach to Investing

Being aware of current volatility levels and understanding how these price fluctuations can potentially impact your investments plays a vital role in building – and maintaining – a suitable portfolio. For longer time horizons, the expected long-term returns of relatively volatile investments such as stocks are generally worth the trade-off. Conversely, as you near retirement and knowing how much your portfolio is worth becomes more important for planning, market volatility can become a major concern.

The Yeske Buie Financial Planning Team manages Client portfolios with these considerations in mind. We review our Clients’ accounts every two weeks for rebalancing opportunities given whatever volatility has been experienced over that period; while we look for these opportunities biweekly, we only trade if market movements have pushed an investment outside of its tolerance bands (20% in either direction of its respective target weight). Additionally, for our retired Clients, we position their portfolios such that 30% of their assets are invested in a mixture of bonds and cash otherwise known as their Stable Reserve. The Stable Reserve acts as a “bridge”, enabling Clients to traverse a period of protracted downside-volatility with security and clarity, knowing this bridge provides six or more years of their spending needs while giving the rest of the portfolio ample time to recover.

We love taking a deep dive into topics like this, so if you’d like to discuss volatility or investments further, please reach out to a member of the Yeske Buie Financial Planning Team to continue the conversation.

Understanding Volatility: A Key to Confident Investing