Volatility risk is the possibility that changes in the volatility of a risk factor will lead to losses. Volatility is a measure of how much prices fluctuate over time, and can be calculated using various methods based on the historical prices of an asset or security. When the volatility of an asset or investment changes unexpectedly, it can result in significant price fluctuations, which can lead to losses.
Here are a few examples of volatility risk:
- A company’s stock price experiences sudden, dramatic fluctuations due to changes in market conditions or changes in the company’s financial performance. This can result in losses for investors who bought or sold the stock at the wrong time.
- A currency experiences sudden, significant changes in its exchange rate due to changes in economic conditions or political events. This can result in losses for investors who hold assets denominated in that currency.
- A commodity, such as oil or gold, experiences sudden, significant changes in its price due to supply and demand imbalances or other market factors. This can result in losses for investors who hold futures contracts or other investments tied to that commodity.
- A bond issuer experiences a credit downgrade or default, leading to sudden, significant changes in the value of its bonds. This can result in losses for investors who hold those bonds.
- A real estate investment experiences sudden, significant changes in its value due to changes in market conditions or other factors. This can result in losses for investors who hold that property or securities tied to it.
