Volatility targeting
How do traders adjust position size so that a quiet week and a wild week risk roughly the same amount?
In plain words
Volatility targeting is scaling exposure up or down so that the portfolio's expected swings stay at a chosen level. When measured volatility rises, the position shrinks; when it falls, the position grows, keeping dollar risk roughly constant.
Why it matters
It makes risk comparable across regimes. Without it, a fixed position in a calm month risks little and in a volatile month can lose several times more than intended. The trade-off is that exposure is cut precisely when markets are moving most, so returns can lag during strong trends.
In a real week: BTC, week of 8 April 2019
In the week of 8 April 2019, BTC's annualised realised volatility was 51.8%, following four straight up weeks including one of 26.03%. Its range was 11.54%, with a largest single hourly move of -2.35% on Thursday, and the week closed -0.75%. Under a volatility target, a higher measured volatility would call for a smaller position in dollar terms.
A common mistake
Treating the target as a return forecast. Volatility describes the size of past swings, not their direction, so a smaller position after a volatility rise can still be wrong-sided.