Chapter 9 Volatility

In this chapter … 

I explain the concept of volatility and show you how to integrate it into your trading. It’s probably fair to say that everyone who is involved in the financial industry knows the term ‘volatility’, but how many actually understand the concept of volatility and how it affects markets and therefore profitability? I believe that among retail traders, their brokers and educators, there is a critical lack of knowledge of volatility and, in parts, there is misinformation on the topic.

I came across a perfect example of misinformation about volatility as I was planning this chapter. A broker was providing some of his ‘advice’ to retail investors. His first comment was that investors need volatility to make money; if you buy a stock, you need it to be volatile in order to generate a good profit. As I will explain, this suggestion shows a lack of knowledge about what volatility really is.

His second piece of advice was provided after he was asked how he works out what sort of range a stock might trade in over the future. He answered that a good rule of thumb to work out a stock’s trading range for the year ahead was to use the square root of its share price. When I heard this, I nearly fell off my chair. It is laughable to suggest that completely different stocks that happen to have the same share price could be assessed with the same equation — with no individual input — in order to guess future volatility. There was no mention of terms such ...

Get An End to the Bull: Cut Through the Noise to Develop a Sustainable Trading Career now with O’Reilly online learning.

O’Reilly members experience live online training, plus books, videos, and digital content from 200+ publishers.