How to trade low volatility: strategies for quiet markets

We talk a lot about how volatility creates opportunities for traders. But what happens when there’s only a little market movement to take advantage of? Find out what to trade when there’s low volatility and what the best low volatility trading strategies are.

• What is low volatility?
• Low volatility trading strategies
• Low volatility in stocks
• Low volatility in forex
• Low volatility investing
• Options strategies for low volatility

What is low volatility?

Low volatility is a market condition that occurs when prices aren’t changing dramatically, and risk is reduced. It’s the opposite of a volatile or highly volatile market, in which prices change rapidly in either direction.

Due to the inactivity, low-volatility markets are considered less desirable to trade. This is especially true for day traders, who typically look for larger price swings to make profits, rather than slow-burn market movements.

However, volatility rises and falls as the market moves through its cycle, so every trader will inevitably face a quiet period.

Traders and investors tend to measure volatility using the VIX, which is an oscillator that measures market expectations for volatility in S&P 500 futures. A VIX reading below 12 is an indicator of low volatility, while readings of 12-20 are normal, and above 20 show high volatility. 

Low volatility trading strategies

As no market condition is guaranteed, you’ll want to ensure you have strategies for both high and low volatility.

Your strategy will very much depend on your risk appetite. During periods of low volatility, it’s still possible to seek out assets that are still ‘in play’ and moving because of news, data releases, earnings, and so on. But you might also decide to find low volatility asset classes and take on a buy-and-hold strategy.

You especially don’t want to be opening lots of trades to try and counteract the lack of volatility, and wind up entering markets you’re not familiar with.

Let’s take a look at how you might trade stocks and currencies during low volatility.

Low volatility in stocks

The stock market regularly becomes ‘quiet’. Whether the lull comes after major wins or losses, the outcome is the same: a challenging environment for more volatility-hungry traders.

For investors, low-volatility stocks are a key part of a portfolio. In fact, many theories suggest that low-risk stocks actually tend to deliver a higher risk-adjusted return than high-risk stocks.

So, for medium to longer-term, lower-risk traders – often known as position traders – the same strategy can apply when markets are calm. Seeking out lower volatility stocks opens up opportunities for maintaining capital stability and aiming for consistent returns, rather than solely focusing on maximizing profits.

But for day traders, who thrive on short-term market movements, it can become more difficult to generate an income. One way to take advantage of low volatility is to find stocks and sectors that are moving more than the wider market. For example, changes in management, corporate actions and earnings announcements can cause volatility for individual companies.

When identifying stocks with volatility, the measure ‘beta’ is used, which looks at how a stock moves compared to a benchmark – normally the S&P 500. The benchmark is assigned a beta of 1.0 and any shares with a beta higher than 1.0 are more volatile than the market average. 

Low volatility in forex

Forex is thought of as a relatively volatile market due to its fast-paced changes, but prices tend to only move in small increments. Volatility is a spectrum, so within the vast range of currency pairs, it’s possible to find highly volatile pairs, relatively stable pairs and those that rarely change price.

The least volatile FX pairs are those that have a pegged relationship. For example, the Hong Kong dollar is usually pegged to the US dollar with upper and lower limits, so rarely trades outside a range of between HK$7.7500 and HK$7.7600 per USD.

As with stocks, even low-volatility currency pairs can experience price movements around data releases and news. In these situations, traders should focus on smaller wins that come from strategies such as scalping. Instead of looking for larger profits, scalpers aim to take small but frequent gains by only holding positions for a short window. If a position earns even a small loss, a scalper will liquidate it.

Carry trades are also a popular strategy during low volatility, as they play off interest rate differentials, rather than relying on market movement. For this strategy, you’d use a low-yield (low interest rate) currency to buy a higher-yield (high interest rate) currency, which allows your capital to appreciate quicker under the higher-yielding rate. However, traders should be aware even small adverse price movements against a carry trade can wipe out any profits earned off the interest and can cause net losses on the position.

AUD/JPY and NZD/JPY are popular due to the large interest rate spreads.

Low-volatility investing

As we’ve seen, sometimes a lack of volatility can be a good thing if you’re looking to take longer-term positions. So, some investors pursue a low-volatility strategy, where they actively look for stocks and other investments that don’t experience too many wild short-term moves.

In general, established blue chips and defensive stocks will move less than newer or cycle-driven companies.

Low volatility options strategies

Some traders turn to options when volatility is low, as certain options trading strategies can return a profit when markets aren’t moving. You can, for example, sell put and call options to earn the premium if your underlying market fails to move beyond either strike price.

However, selling options can mean taking on significant risk, and the underlying movements can be complex. So it’s worth learning more about options trading before you get started.