If someone has ever been interested in the stock market and the way it works then, most likely, he or she knows how volatile it can be. Over the past several years, we’ve witnessed the way stocks have gone from the bottom of the Great Recession to hitting new highs – blinkered by many ups and downs in between.
A volatile market may often be the result of an imbalance of trade orders in one direction (all buys and no sells, for instance). However, market volatility is caused by a host of several other factors.
- Economic crises. It is obvious that any financial market is very sensitive to major economic situations. Typically, they react negatively: the worse the crisis, the bigger its influence on the market’s overall performance.
- Changes in national economic policy. For example, the short-term changes in the monetary policy of the Federal Open Market Committee, the “Fed”, almost always cause a sharp movement in markets like the US dollar index. The market tends to go up when the Fed eases monetary policy, and down when the Fed tightens the policy.
- Economic indicators. Economic data serves as a window for traders to have an overlook on the economy: when it is doing well, the market tends to react positively; when it is not hitting its forecasted targets, the market may tumble. This is why economic reports serve as a volatility indicator and are often awaited by traders with bated breath. Monthly jobs reports, inflation data and consumer spending figures can all impact market performance. Traders usually try to predict the reports before they come out and sell or buy their shares accordingly. If the report differs from the expected number, the market may quickly fluctuate.
- Volatility overseas. A modern economy is globally connected, so, whatever happens in the world might have an impact on a market closer to home. Wars, regime changes and revolutions are all likely to have the potential to be reflected on trade, the flow of money and investments between countries and multinational corporations.
- Political developments. Politics are a key factor affecting market performance. Governments make decisions on trade agreements, taxes, tariffs and federal spending – all of which play a major role in regulating industries and have an impact on the economy overall. Even political speeches can cause market volatility. President Trump announcing tariffs on imports from China as a part of an escalating trade war in 2018 is a great example of it, causing the Dow, S&P 500 and NASDAQ to tumble more than 2%. Since then, the US President has changed his stance several times, but the announcement itself majorly contributed to market volatility.
- Public relations. You may be surprised, but volatility isn’t only market-wide. It also depends on the public image of an individual company: its stock performance can climb or jump off the hill on the back of PR-based hits and disasters. The scale matters: the larger the company, the more likely its performance will affect the markets.
The stock market will always have its ups and downs. Volatility in the market can be beneficial for traders, as it offers an opportunity to profit. However, it also increases the risk of loss. It is recommended that traders follow a basic trading strategy and try to prepare in advance. A well-defined trading plan, tailored to your personal goals, will help you to be ready for the most volatile markets.