How to profit from volatility?

One of the often seen patterns in technical analysis is the volatility in stocks, forex, commodities and many more asset classes. You can easily see this volatility when you chart forex pairs or stocks.

Bollinger Bands can help. Bollinger Bands are a popular which show the volatility directly in your chart. If the Bollinger Bands widen the volatility increases. If they tighten the volatility decreases. If the volatility is relatively low, we expect rising volatility. If the volatility is high, we expect falling volatility. Just look an charts. Use the Bollinger Bands as help and you will spot it.

But how can we exploit that? I show you two instruments. The first are stocks and the second are options. Stocks, especially volatile stocks can rise and fall in a short time. Stocks with a price under 5$ are usually very volatile. If we assume that prices are normal distributed, that means prices fall and rise with the same probability it's easy to see that you can get an edge in volatile markets. For instance the volatility of a very volatile stock is over the time of two years 120%.  The stock can't loose more than one hundred percent. But you can gain more than one hundred percent. That could be your edge.

The second what I like to explain is options. Options are by far more complicated than stocks and the expected volatility is already included in the price. If people expect high volatility, the options get a higher price. So you just get an advantage if you know the future volatility better than the market. It's challenging.