Olivia Pratt
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Strap in! Wall Street’s roller coaster here to stay

Analysis: Cash to play key role as volatility makes a comeback

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It’s been a wild ride.

t’s understandable if this week’s wild stock market swings left you feeling a little seasick. You might just need to get used to it.

A string of three 200-point-plus swings in the Dow, following earlier gyrations in the currency market, and collapsing oil prices demonstrates that volatility is back and that it might be here to stay. If so, it is going to make trading and investing a heck of a lot more interesting, if not more nerve-racking.

Granted, October historically tends to be the most volatile month for stocks.

Still, there is no denying markets have seen extraordinary gyrations.

Volatility, as measured by the Chicago Board Options Exchange Volatility IndexVIX, +13.22% or VIX, an options-based measure of market anxiety, rose by another 13% on Friday to 21.24, near its high for the year set in February and back above its 20-year average of around 20.8. The index rose 46% since last Friday.

There are compelling reasons to think the very long run of very low volatility is coming to an end.

Markets are entering a phase that should be called the “newer normal,” to borrow a phrase from David Kotok, chairman and chief investment officer at Cumberland Advisors, in a recent note to clients.

Markets are exiting nothing less than a half-decade era of chronic low volatility fostered by ultra-loose monetary policy by the Federal Reserve and other major central banks as they pushed interest rates toward zero and implemented unorthodox monetary policy measures, he says.

With central banks in lock step, volatility, a measure of the uncertainty surrounding the size of potential changes in the value of an asset, dried up. Measures like the VIX, which is often referred to as Wall Street’s “fear gauge,” fell and remained extremely low by historical standards.

The lack of volatility in turn made for “incredible complacency” among investors, Kotok said in a phone interview with MarketWatch. The concern is that low volatility investors have become too comfortable, leading them to take larger and larger risks.

What’s changed? For one thing, central banks are no longer operating in lock step in the wake of the 2008 financial crisis.