During periods such as high volatility as we are experiencing now, the question on everyone’s lips is “should I buy or should I sell”. Depending on your short, medium and long-term goals, one strategy that you may like to consider, which has proven successful for our clients over the medium and longer term, is “Dollar-cost averaging.”
Dollar-cost averaging (DCA) is an investment strategy where an investor divides the total amount they want to invest across periodic purchases of a target asset, regardless of its price at the time of purchase.
The key features of DCA include:
1. Fixed investment amount: You invest the same dollar amount at regular intervals (e.g. weekly, monthly).
2. Automatic purchasing: This usually involves buying into a particular investment like shares, ETFs, or managed funds.
3. Price fluctuation benefit: When prices are low, your fixed dollar amount buys more units; when prices are high, you buy fewer. This can lower your average cost per unit over time.
Example:
Imagine you invest $5,000 into a particular share or Exchange Traded Fund (ETF) every month for six months:
• Month 1: Share price = $10 → 500 shares
• Month 2: Share price = $8 → 625 shares
• Month 3: Share price = $12 → 416 shares
• Month 4: Share price = $9 → 555 shares
• Month 5: Share price = $11 → 454 shares
• Month 6: Share price = $10 → 500 shares
At the end of six months, you’ve invested $30,000 and bought a total of around 3050 shares, meaning your average cost per share is around $9.83—even though the price fluctuated.
Key Takeaway:
Dollar-cost averaging helps reduce the impact of volatility and takes emotion out of investing by sticking to a consistent strategy over time.
Dollar-cost averaging (DCA) stands out as a disciplined approach that can offer significant advantages, especially during periods of market volatility. This method involves investing a fixed amount of money at regular intervals, regardless of the asset’s price. By doing so, investors purchase
more shares when prices are low and fewer shares when prices are high, potentially lowering the average cost per share over time.
Advantages of Dollar-Cost Averaging:
Mitigates Market Timing Risks: Attempting to predict market movements can be challenging and often counterproductive. DCA removes the guesswork by ensuring consistent investments, thus reducing the risk associated with market timing.
Reduces Emotional Investing: Market fluctuations can evoke emotional responses, leading to impulsive decisions like panic selling during downturns or overinvesting during upswings. DCA promotes a systematic investment approach, helping investors stay the course and avoid reactionary moves.
Facilitates Long-Term Wealth Building: Regular investments, irrespective of market conditions, can lead to substantial portfolio growth over time. This strategy aligns with long-term financial planning by emphasising consistent contribution over attempting to capitalise on short-term market movements.
Expert Insights:
However, this strategy only works there the companies that you are investing in are;
• Blue chip
• Have a large market capitalisation to weather the volatility
• They have a strong balance sheet.
• We do not recommend buying one share but rather a portfolio of quality shares or diversified ETFs
Warren Buffett, the esteemed CEO of Berkshire Hathaway, is a proponent of consistent investment strategies like DCA.
Buffett also emphasises the importance of a long-term perspective:
“Only buy something that you’d be perfectly happy to hold if the market shut down for 10 years.”
This philosophy aligns seamlessly with the principles of DCA, encouraging investors to focus on enduring value rather than short-term market fluctuations.
Considerations for Current Investors:
For clients contemplating selling their investments amid current market volatility, adopting a DCA strategy can offer a structured pathway to re-enter the market. By systematically investing fixed amounts over time, investors can alleviate the pressure of identifying the “perfect” entry point and reduce the impact of short-term market fluctuations on their portfolios.
In conclusion, dollar-cost averaging serves as a prudent strategy for navigating uncertain markets. It fosters disciplined investing, mitigates the pitfalls of market timing, and leverages market volatility
to potentially lower the average cost of investments. By maintaining a consistent investment schedule, clients can focus on their long-term financial objectives, confident in the knowledge that they are systematically building wealth, irrespective of short-term market movements.
Should you require further information about Dollar-cost averaging, please feel free to contact Peter Quinn by submitting an enquiry or calling us on +61 2 9580 9166 to book an obligation-free appointment.
The information in this document does not consider your personal objectives, financial situation or needs, so you should consider its appropriateness regarding these factors before acting on it. It is important that your personal circumstances are taken into account before making any financial decision, and it is recommended that you seek assistance from your financial adviser.