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Market volatility series part 1: What causes markets to fluctuate?

When global financial markets become volatile, it’s natural for investors to feel concern for their investments. However, it can be helpful to understand what causes market movements – and why they’re not always a reason to worry. Below, we offer three things to keep in mind.

1. Volatility is a fact of life

There are many factors that can influence market movements, from industrial and economic developments to wars, civil unrest, the weather – and, more recently, pandemics such as the Coronavirus.
For example, economic growth can be affected by global trade and production. Political events may impact business and consumer confidence which, in turn, can reduce spending and company profits. Meanwhile, poor fiscal decisions in some countries can have a knock-on effect in other countries where they have debts. And then there are natural disasters, which can cause damage to any economy at any time.

 

When markets experience volatility, investors may adopt a less-risky approach to investing by selling out of riskier share markets and buying in to more conservative assets such as bonds.

 

Markets operate on a supply and demand model, so if there are more investors who want to sell shares than those who want to buy, it drives down their value. Because of this, demand moves in cycles, meaning markets are constantly going up and down by varying degrees. This is one of the fundamental principles of investing – but one that makes share markets inherently unpredictable.

 

In the decade since the Global Financial Crisis, there have been a number of downturns in share markets and in-between periods with strong returns. So keep in mind that even when the immediate outlook doesn’t look promising, it’s likely that markets will pick up again at some point in the future.

2. Shares are a long-term investment

Australia, for example, has a relatively open market and relies heavily on exports to countries like China and Japan. This means we’re also affected by movements in the global marketplace, even if there’s no direct impact to our economy. However, these impacts are usually short term.

 

History has shown us that although share markets fluctuate, the general trend is always upward. This is because shares are a high-growth asset class. So even though they’re more exposed to value fluctuations than more defensive assets such as bonds, they’re designed to provide higher returns over a period of five years or more.

 

When it comes to your investments, it can be important to think in years as short-term volatility won’t necessarily affect your portfolio’s potential in the long run. By adopting a long-term view, you may have the confidence to ride out any short-term fluctuations in the market and make the most of growth opportunities as they arise.

So keep in mind that even when the immediate outlook doesn’t look promising, it’s likely that markets will pick up again at some point in the future.

3. Financial advice can help

Market movements are caused by a unique combination of factors, so there’s no simple way of predicting what the next change will be. While it can be tempting to sell up in the face of a market downturn, it’s a risky strategy that may impact long-term performance. This is because you may end up buying back the same shares at a higher price once the market picks up again.
When share markets fall, any impacts on your investment strategy may depend on your stage of life, as well as your investment goals and timeframe. So it might be a good opportunity to review your investment strategy and make sure it’s still appropriate for your personal circumstances.

 

That’s where a financial adviser can help, as they have expertise to deal with market volatility and the ability to calculate the potential risk to your investments to help ensure you’re still on track to reach your long-term goals.

 

You can read more here about some things to consider before changing your investment strategy.

Disclaimer

This document has been prepared by Colonial First State Investments Limited ABN 98 002 348 352, AFSL 232468 (CFSIL). The information, opinions, and commentary contained in this document have been sourced from Global Markets Research, a division of Commonwealth Bank of Australia ABN 48 123 123 124 AFSL 234945 (CBA). Global Markets Research has given CFSIL its permission to reproduce its information, opinions, and commentary contained in this document and for CFSIL to authorise third parties to reproduce this document. This document has been prepared for general information purposes only and is intended to provide a summary of the subject matter covered. It does not purport to be comprehensive or to give advice. The views expressed are the views of CFSIL at the time of writing and may change over time. This document does not constitute an offer, invitation, investment recommendation or inducement to acquire, hold, vary, or dispose of any financial products. CFSIL is a wholly owned subsidiary of CBA. CFSIL is the issuer of super, pension and investment products. CBA and its subsidiaries do not guarantee the performance of CFSIL products or the repayment of capital for investments. This document may include general advice but does not take into account your individual objectives, financial situation or needs. The Target Market Determinations (TMD) for our financial products can be found at www.cfs.com.au/tmd and include a description of who a financial product is appropriate for. You should read the relevant Product Disclosure Statement (PDS) and Financial Services Guide (FSG) carefully and assess whether the information is appropriate for you and consider talking to a financial adviser before making an investment decision. The PDS and FSG can be obtained from www.cfs.com.au or by calling us on 13 13 36. Past performance is no indication of future performance. Stocks mentioned are for illustrative purposes only and are not recommendations to you to buy sell or hold these stocks. This document cannot be used or copied in whole or part without CFSIL’s express written consent.