Financial Education

Understanding risk: volatility is not the same as loss

15 August 2024 · 5 min read

Risk is one of the most used and least examined words in finance. People reach for it to mean very different things, and the confusion leads to poor decisions. A useful first step in financial literacy is to separate two ideas that often get blurred together: volatility and permanent loss.

Volatility is movement, not disaster

Volatility is how much something bounces around in value along the way. It feels like risk, especially when values fall and the news is loud, but for a long-term investor it is often just noise. A holding can be volatile and still recover and grow over time. Reacting to volatility as though it were permanent loss, by selling into a fall, is a common and costly mistake that turns a temporary dip into a real, locked-in loss.

Permanent loss is the real concern

Permanent loss is capital you do not get back: a business that fails, a holding that never recovers, or selling in a panic and locking in a fall. The genuine risks worth managing carefully are the ones that do lasting damage, not the ones that merely feel uncomfortable for a few months and then pass.

The risk that fits your timeframe

Which risk matters most depends on when you need the money. For money you will spend next year, short-term swings are a real problem and stability matters. For money you will not touch for decades, short-term volatility matters far less than the slow erosion of inflation and fees. Matching the risk to the timeframe is more important than avoiding risk altogether.

This is general information and education only. It does not take account of your objectives, financial situation or needs and is not personal financial advice. GBX Professional Services does not hold an Australian Financial Services Licence. Consider speaking with a licensed adviser before acting on anything here.