Last Updated on August 30, 2021 at 3:40 pm
Risk represents the probability of loss and volatility a measure of fluctuation. The loss here refers to a loss of capital and fluctuation the ups and downs in the movement of an asset. Now these are textbook definitions. When applied to real-life new dimensions get added on, as with everything else.
Let us start with the standard refrain of the mutual fund industry: risk is not volatility.
Everyday ups and downs of the stock market is volatility. They do not represent risk/real losses (or gains!) unless redeemed.
The biggest risk is to blindly believe that risk is not volatility!
Join over 32,000 readers and get free money management solutions delivered to your inbox! Subscribe to get posts via email! 🔥Enjoy massive discounts on our robo-advisory tool & courses! 🔥
The volatility of the stock market can be measured in multiple ways. The simplest is perhaps the difference the maximum return and the minimum return.
Will equity markets give ‘good returns’ over the next 5 years? One look at the above graph will tell you that the volatility over 5 years is pretty high. If I go ahead and take a chance, volatility represents risk.
It is only over very long durations, volatility is small enough to not represent risk. Read more: Equity investing: How to define ‘long-term’ and ‘short-term’
Even for a long-term goal after a few years, volatility represents risk. Suppose you have financial goal 25 years away. Today, volatility does not matter to you. However, 20 years later, volatility represents risk. Which is why it is crucial to exit equity when the goal nears.
Risk is not volatility only when you don’t have to redeem in the near future. However, as pointed out by Krishna Kumar at AIFW, this applies to only normals ups and downs of the stock market. If there is a 40% crash tomorrow, then recovery may take several years. If I don’t know how to assess the impact of such an even on my financial goals, knowledge of volatility metrics means little.
Volatility is mathematical. Risk maybe psychological and if so, often due to innumeracy.
Taking comfort in past performance, having blind faith that an SIP will work, or that equity will beat inflation over the long term are examples innumeracy risk. There is no mathematical evidence to back that.
Other examples: Taking comfort in fixed income, not understanding what a real return is; Assuming cost inflation index represents real inflation.
Use of volatility models without understanding inherent limitations also represents risk! Read more:Value at risk (VAR): Would you buy a car with a faulty airbag!
There are other types of investment risks which have little to do with the volatility of an asset class. A nice compilation can be found here
🔥Enjoy massive discounts on our courses, robo-advisory tool and exclusive investor circle! 🔥& join our community of 5000+ users!
Use our Robo-advisory Tool for a start-to-finish financial plan! ⇐ More than 1,000 investors and advisors use this!
New Tool! => Track your mutual funds and stock investments with this Google Sheet!
We also publish monthly equity mutual funds, debt and hybrid mutual funds, index funds and ETF screeners and momentum, low-volatility stock screeners.
- Do you have a comment about the above article? Reach out to us on Twitter: @freefincal or @pattufreefincal
- Have a question? Subscribe to our newsletter using the form below.
- Hit 'reply' to any email from us! We do not offer personalized investment advice. We can write a detailed article without mentioning your name if you have a generic question.
Join over 32,000 readers and get free money management solutions delivered to your inbox! Subscribe to get posts via email!
About The Author
Dr M. Pattabiraman(PhD) is the founder, managing editor and primary author of freefincal. He is an associate professor at the Indian Institute of Technology, Madras. He has over ten years of experience publishing news analysis, research and financial product development. Connect with him via Twitter(X), Linkedin, or YouTube. Pattabiraman has co-authored three print books: (1) You can be rich too with goal-based investing (CNBC TV18) for DIY investors. (2) Gamechanger for young earners. (3) Chinchu Gets a Superpower! for kids. He has also written seven other free e-books on various money management topics. He is a patron and co-founder of “Fee-only India,” an organisation promoting unbiased, commission-free investment advice.Our flagship course! Learn to manage your portfolio like a pro to achieve your goals regardless of market conditions! ⇐ More than 3,000 investors and advisors are part of our exclusive community! Get clarity on how to plan for your goals and achieve the necessary corpus no matter the market condition is!! Watch the first lecture for free! One-time payment! No recurring fees! Life-long access to videos! Reduce fear, uncertainty and doubt while investing! Learn how to plan for your goals before and after retirement with confidence.
Our new course! Increase your income by getting people to pay for your skills! ⇐ More than 700 salaried employees, entrepreneurs and financial advisors are part of our exclusive community! Learn how to get people to pay for your skills! Whether you are a professional or small business owner who wants more clients via online visibility or a salaried person wanting a side income or passive income, we will show you how to achieve this by showcasing your skills and building a community that trusts and pays you! (watch 1st lecture for free). One-time payment! No recurring fees! Life-long access to videos!
Our new book for kids: “Chinchu Gets a Superpower!” is now available!
Must-read book even for adults! This is something that every parent should teach their kids right from their young age. The importance of money management and decision making based on their wants and needs. Very nicely written in simple terms. - Arun.Buy the book: Chinchu gets a superpower for your child!
How to profit from content writing: Our new ebook is for those interested in getting side income via content writing. It is available at a 50% discount for Rs. 500 only!
Do you want to check if the market is overvalued or undervalued? Use our market valuation tool (it will work with any index!), or get the Tactical Buy/Sell timing tool!
We publish monthly mutual fund screeners and momentum, low-volatility stock screeners.
About freefincal & its content policy. Freefincal is a News Media Organization dedicated to providing original analysis, reports, reviews and insights on mutual funds, stocks, investing, retirement and personal finance developments. We do so without conflict of interest and bias. Follow us on Google News. Freefincal serves more than three million readers a year (5 million page views) with articles based only on factual information and detailed analysis by its authors. All statements made will be verified with credible and knowledgeable sources before publication. Freefincal does not publish paid articles, promotions, PR, satire or opinions without data. All opinions will be inferences backed by verifiable, reproducible evidence/data. Contact information: letters {at} freefincal {dot} com (sponsored posts or paid collaborations will not be entertained)
Connect with us on social media
- Twitter @freefincal
- Subscribe to our YouTube Videos
- Posts feed via Feedburner.
Our publications
You Can Be Rich Too with Goal-Based Investing
Published by CNBC TV18, this book is meant to help you ask the right questions and seek the correct answers, and since it comes with nine online calculators, you can also create custom solutions for your lifestyle! Get it now.Gamechanger: Forget Startups, Join Corporate & Still Live the Rich Life You Want
This book is meant for young earners to get their basics right from day one! It will also help you travel to exotic places at a low cost! Get it or gift it to a young earner.Your Ultimate Guide to Travel
This is an in-depth dive into vacation planning, finding cheap flights, budget accommodation, what to do when travelling, and how travelling slowly is better financially and psychologically, with links to the web pages and hand-holding at every step. Get the pdf for Rs 300 (instant download)