Navigating financial market fluctuations in the UAE and worldwide

If you’re in the world of brokerage you will be very familiar with the term ‘volatility’.

Market fluctuations come with the territory, and so far 2017 has been no different.

Back in January, Bloomberg expected high volatility as the markets reacted to a range of unknowns. Their ‘unknown’ of choice was the election of President Trump, but as the year has turned out we’ve also seen volatility caused by worries surrounding the elections in the Netherlands and France and, more recently, the surprise outcome of a hung parliament after the UK general election. Bloomberg noted that the past two years has been the most volatile two-year period since 2009, with emerging markets leading the way.

So what, if anything, can a broker do about it? Are there steps they can take to protect themselves in a profession that’s so directly exposed to market volatility? What qualities will they need to survive or even thrive in such conditions?

Understanding volatility

Volatility describes the up-and-down movements of the markets, often expressed in ‘standard deviations’ from the expectation — though you’re just as likely to see it expressed as an annualised percentage. It is usually measured by financial barometers such as the Chicago Board Options Exchange (CBOE) Volatility Index (VIX) — generally considered the industry standard.

According to Yale School of Management, historically the volatility of the stock market is roughly 20 per cent a year and 6 per cent a month. In other words, based on past history, you can expect stocks to fluctuate by around 20 per cent, up or down, over any given year. But volatility isn’t constant. It changes in response to market conditions, so the market experiences periods of both high and low volatility.

There’s also a difference between historical volatility — the observed fluctuation of markets looking back — and implied volatility, which is the expected volatility of markets looking to the future. Implied volatility is the thing that is reflected in market indices such as the VIX. The index is a reflection of market expectations about future volatility — which is why it’s sometimes seen as a gauge of investor fear and confidence, as well as the favoured volatility barometer.

There are many well-known examples of high volatility periods in financial market history, from the years that followed the Wall Street Crash, to the collapse of the tech bubble, the events of 9/11, and the 2008 financial crisis.

But it’s important to keep things in perspective. According to research by McKinsey in 2016, while recent years have seen dramatic volatility, it’s actually lower than in benchmark periods such as the 2010s, the late 1980s and the mid 1970s. Measured over a longer period, more recent fluctuations such as those we faced over the last two years can be evened out. Five-year volatility in the period 2011-16 was actually lower than the past 50 years on average. The VIX Index hit a decade low in May this year, suggesting investor confidence in the markets is more stable than commentators expected at the start of the year.

The picture in the UAE

Here in the UAE, the last 12 months have brought their share of headaches for brokers. In 2016, brokerage firms were cutting costs and offering discounts, in an environment that saw daily trading volume on the Dubai Financial Market (DFM) General Index fall by 60 per cent year-on-year.
It’s no coincidence that this came at a time of low market volatility. Higher volatility often results in higher volume, which can actually benefit brokerage firms since their performance depends more on traded volume than on taking directional views of the market.

But there’s reason to be optimistic about economic conditions more generally in the region. Dubai’s Economic Development Committee has projected growth of 3.1 per cent for this year, up from 2.7 per cent in 2016, while the IMF has revised its growth target up from 1.5 per cent to 2 per cent. Even this estimate is considered by UAE bank Emirates NBD to be too pessimistic.

Responding to volatility

So how do we respond when conditions turn volatile?

Working in global markets, it’s not possible to reliably predict market fluctuations, especially those caused by shock events. The value of the British pound sterling in foreign exchange markets is a case in point. It crashed after the 2016 EU referendum decision, and fell again after the recent UK terrorist attacks and the unexpected general election result.

Conversely, sterling rose again recently after the Bank of England indicated that it was closer to raising interest rates than the market expected.
Volatility will happen, whether you’re used to it or not. But while there’s a tendency for volatility to be regarded as a negative thing, it’s worth repeating that that’s not always the case. As brokers, market fluctuations can work in our favour, especially if they result in higher trading volume.

Grit, knowledge and opportunity

If volatility can be good or bad, but you can’t see it coming, how can you prepare? The answer lies in a range of essential qualities including determination, awareness and building experience.

‘Grit’ here is vital — defined in a 2007 American study by Angela L Duckworth and others as ‘perseverance and passion for long-term goals’.

According to the authors of this study, grit entails working strenuously towards challenges, and maintaining effort and interest over the years despite failure, adversity, and plateaus in progress. They cited grit as being essential to high achievement in a range of professions. They also found that ‘grittier’ individuals had reached higher levels of education, while older individuals had a tendency towards more grit than younger colleagues, and individuals with more grit made fewer job changes.

Overall the study concluded that grit, coupled with natural talent, is a key differentiator in performance. Working through tough times teaches us to handle them. There’s a strong argument that an ability to buckle down and stay the course is a key component in coping with the fluctuations of market volatility.

But grit won’t see you through on its own. Brokers need to know what’s going on in their profession in order to apply their determination in a useful, directed way.

Professional trader and author Gatis Roze described the typical broker’s day as beginning with at least three hours of research: checking the NASDAQ pre-market pages, skimming overseas markets, reading the news and investment periodicals and looking closely at the psychology of the market, while tracking volumes, prices and investor sentiment.

Knowing the job inside out is important for building credibility among clients and working within regulatory guidelines, and essential for long-term success. Keeping up to date with markets, wider trends, as well as networking and research, are all essential.

Markets change quickly, and keeping on top of events allows brokers to apply their experiences to assess risk, while helping them spot new opportunities. Experience is something that, by definition, only develops with time, from riding out the good and the bad. There’s a reason people talk about ‘hard-won experience’.

In that sense, the best way to approach market volatility is to treat it as an opportunity — to thrive from it, not just survive it. To do this, building knowledge and experience is key, rather than trying to anticipate the unpredictable.

Building up knowledge keeps brokers in good stead, and when the inevitable difficult times kick in, their experience and the groundwork they’ve put in will make a world of difference.

Marco Saviozzi is the CEO of GMG Brokers