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Why cryptocurrencies are volatile and how to protect yourself

If you have already inquired about the characteristics of the cryptocurrency you've probably read that digital currencies are very volatile. But what does all this mean?

What is financial volatility?

Let's start immediately by specifying that the volatility is a term used in the financial and investment industry to describe the degree of fluctuation in stock prices, exchange rates, interest rates and commodity prices over time. Volatility can be measured in terms of standard deviation or beta. Standard deviation measures how a stock's price fluctuates relative to its average price over a given period of time, while beta measures a stock's volatility relative to other stocks in its class.

A high standard deviation indicates that the stock's prices are volatile, while a low standard deviation indicates that the prices are more stable. A beta above one means the stock is more volatile than other stocks in its class, while a beta below one means the stock is less volatile.

Volatility can be beneficial for investors because it helps identify profitable trading opportunities in the short term. However, excessive volatility can lead to unstable markets and a decrease in investor confidence.

Types of financial volatility

That said, there are three types of financial volatility: systematic, idiosyncratic and bipolar. There systematic volatility is a broad term that refers to the tendency of prices to move up and down over time in different markets. There idiosyncratic volatility is the variability of prices within a particular market, caused by individual factors such as sentiment or news. There bipolarity refers to two opposite price movements over time: high volatility and low volatility.

Why are some assets volatile?

There are many reasons why stock or bond market prices can change rapidly and unpredictably. Some of the causes of financial volatility are:

  • Economic Conditions: Changes in economic conditions, such as a recession or recovery, can affect the willingness to spend, borrow and invest. This can cause stock and bond prices to move rapidly as investors try to evaluate these changes when deciding how to allocate their money.
  • Banking and Investment Risk: Financial institutions and other investors often take many risks when making investments. This includes the risk of losing money, which can cause stock and bond prices to move rapidly. For example, a company that invests in risky new products may see its share price fall if it is concerned that the product will not be successful.
  • Technical Factors: Markets are always affected by a number of technical factors, such as changes in supply and demand for stocks and bonds. These factors can affect the speed of price movement and can be difficult to predict.

How to protect yourself from financial volatility

When it comes to investing, one of the most important things to remember is that financial volatility is a reality. This means that severe market swings can occur at any time, which can impact your portfolio. Here are some tips to protect yourself from financial volatility:

  • Set realistic expectations. Don't expect the market to go up or down all the time - it's not possible. Instead, set goals based on how much you are willing to risk and how much you are willing to earn.
  • Understanding your risk tolerance. Are you comfortable with the risk level of your portfolio? If not, adjust your investment strategy accordingly. For example, if you are willing to take on a little more risk, you may be more suited to a volatile stock rather than a fixed income product.
  • Stay disciplined. Don't let fear take over: even if the market goes down, don't sell all your investments at once! Discipline will help you overcome fluctuations and minimize losses.
  • Diversify your investments. When markets are volatile, it is easy to focus too much on specific businesses or sectors. Diversifying your portfolio will help you reduce the impact of any short-term market swings.
  • Get a financial advisor. A financial advisor can help you understand your risk tolerance and make sound investment decisions that take into account your long-term goals.

Why are cryptocurrencies volatile?

At this point we can trace a point of contact between the theme of financial volatility and that of cryptocurrencies.

To do this we recall how cryptocurrencies are becoming increasingly popular, but this does not mean that they are risk-free (indeed!). We also remember that cryptocurrencies are volatile in terms that their prices can change rapidly and unexpectedly. This can mean big profits for those who know how to take advantage of it, but also losses for those who don't understand what they are doing.

Cryptocurrencies are in fact digital or virtual tokens that use cryptography to protect transactions and control the creation of new units. Cryptocurrencies are decentralized, meaning they are not subject to the control of governments or financial institutions. They are often traded on decentralized exchanges and can also be used to purchase goods and services.

Given the above, cryptocurrencies are highly volatile, which means that their prices can vary a lot over time: there is indeed a lot of uncertainty around them, which affects the price that people are willing to pay. Furthermore, cryptocurrencies are relatively new and therefore are the subject of numerous speculations. This means that their prices can be affected by news and other events that have little to do with the actual value of the currency.

For example, on December 19, 2017, the price of the bitcoin dropped from $ 19.000 to $ 11.000 in just six hours due to concerns about potential restrictions on cryptocurrency trading in China. As with any investment opportunity, cryptocurrencies should only be invested with caution. If you are new to cryptocurrencies and are not sure if they are right for you, consult a financial advisor before investing!

Buying Cryptocurrencies? Exchange Binance Binance

Roberto Rais

A great cryptocurrency expert and a long time collaborator. He actively follows several specialized Blogs in the cryptocurrency sector as Editors

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