For instance, two out of the top five point increases and point declines in the Dow Jones industrial average, the oldest U.S. equity index, were reached in the first six months of this year. Overall market volatility isn't increasing, but individual stocks are progressively unpredictable. Volatility does matter to investors. It's an axiom of modern portfolio theory that the only way to create the opportunity to earn a higher investment return is to take greater risk. There is no single definition of risk in the capital markets, but the most common measure is volatility.
Stocks are more volatile than bonds, and bonds more volatile than cash.
The close relationship between risk and price swings makes sense. High volatility increases the odds that you'll suffer a loss if you need to sell an asset to raise money, and the returns to volatile assets are uncertain. What's more, economists take a deeper look at stock market risk by breaking it down into two basic components, called idiosyncratic risk and structural risk. Idiosyncratic risk resides with the company and customers. Let's say an auto maker builds a brand-new line of cars.