Investment markets have felt more volatile and therefore more risky in 2025. This began in January with the impact of the release of the little-known Chinese AI model DeepSeek, particularly on the US market.
This followed the Trump trade that started in October 2024 and which saw the US market, and most notably technology names, rally in anticipation of an accommodating political backdrop. The mega cap tech names, in particular, were at extremely high valuations from an historical perspective going into this year.
Trump’s tariffs announcement on 2 April has led to a period of global volatility. By the end of Friday 4 April, the US S&P500 index had fallen by 9.1% since the start of that week. This was the market’s biggest weekly fall since March 2020 during the Covid pandemic.
What do such periods mean for investors using target risk funds and portfolios that seek to deliver an outcome they expect based on their level of risk, as measured by volatility? Are these funds and portfolios able to remain within their designated risk bands?
First, it is useful to remember what volatility means. It is essentially a measure of how fast and how much prices move. It does not of itself make an asset more risky; volatility is generally a symptom of a risky asset class rather than the cause of it. As sentiment generally has a greater impact on the price moves of riskier assets, the two have become conflated but they are not exactly the same.
While volatility can relate to rising as well as falling markets, it is the latter that investors generally focus their attention on because that is what can potentially hurt their portfolios, of course.
Are assets, including equities, riskier now? The answer is probably not but possibly yes. Let’s start with the probably not part of the answer. The long-term volatility estimates of asset classes are generally based on long-term results and should already include major events like Black Monday, the Global Financial Crisis, Covid and similar sell-offs. If it is in the history, similar events are implied in the future expectations. The estimates also include the many periods of far lower volatility which bring the averages over time back down.
Even if we are in a period of elevated volatility, it does not necessarily mean the asset classes we are investing in have become fundamentally more risky; it means their prices are moving about more at the moment. Over the short term, an asset class’ volatility is not a constant, but over the long term it should revert to type.
The other part of the answer is possibly yes because of the greater political and economic uncertainty we are currently facing. The tariff announcements, even with the 90-day pause, have already begun to impact trade, supply chains, consumer confidence, potential business investment and tourism to the US. This led to the International Monetary Fund (IMF) in April reducing its estimates for global economic growth, particularly for the US. Such uncertainty does not necessarily directly impact volatility in investment markets, however.
Having said all this, it does not mean volatility is not a concern, however, as price variability can have a significant impact in the short term. The best way to mitigate volatility is to try to avoid being a forced seller, extend an investment time horizon and through diversification. The latter includes diversification across asset classes, geographies and styles of investment, and blending actively managed funds with passive vehicles.
Diversification can certainly help target risk funds and portfolios to remain within their risk bands even over the relatively short term as they seek to smooth price moves. This has been demonstrated again during the recent volatility as we saw that asset classes did not all fall at the same time or to the same proportions.
We had also been advocating diversification to investors even before Trump won the Presidential election in November 2024 given the fragmentation of globalisation, which is currently being exacerbated, and the concentration risk in the US market with the rise of the Magnificent 7 stocks.
It is beneficial to remember two other principles of investing. While events can have a significant short-term impact, history has shown us that these events do not stop the long-term positive performance of stock markets. Falls in stock markets, however significant, look ever smaller on a performance chart the longer you are invested.
The other principle is that such times of heightened volatility and market dislocations tend to create great investment opportunities for the long-term investor, especially active managers who can take advantage of over-sold stocks.
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Past performance does not predict future returns. You may get back less than you originally invested.
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