Over the last 100 years global stock markets have experienced many major set-backs, including the Great Depression of the 1930s, several wars, the ‘crash of 1987’ then the Global Financial Crisis (GFC) twenty years later. But for every low, a recovery has followed – they just take time.
What stops most people from investing in (or returning to) the stock market is not knowing when to re-invest. Although nobody knows exactly when a market or a particular stock price has found its base price, we can employ a strategy to remove this speculation and focus on a longer term investment plan.
Averaging into the stock market
A regular savings plan involves putting aside a small amount of funds on a regular basis to make investments of a set amount at regular intervals. This is a suitable strategy for any sized portfolio, as it allows investors to build up an investment portfolio over time. The other advantage of investing this way is that it removes the decision-making process of trying to pick the cheapest time to invest (which is impossible), only to miss the bottom and the recovery. Instead, investing regularly in the market applies the concept of ‘dollar cost averaging’.
The aim of dollar cost averaging is that the average cost of the investments will always be below the average value of the investments during the period in question.
Take this example
A newly retired investor named Henry has no existing portfolio of stocks but decides to make the effort. Instead of purchasing his full allocation of one particular stock straight away he decides to initially invest $500. It was so simple that Henry continues to invest $500 over the next three quarters of the year. During this time the stock price rises and falls, which gives the overall result as follows:
| Market Movement | Value | No. Units | Cost | Average
Cost |
Average
Value |
| Stock price initial purchase | $1.00 | 500 | $500 | $1.00 | $1.00 |
| Stock price falls second quarter | $0.75 | 666 | $500 | $0.86 | $0.88 |
| Stock price rises third quarter | $0.86 | 581 | $500 | $0.93 | $0.95 |
| Stock price as at 12 months’ time | $1.40 | 357 | $500 | $0.95 | $1.06 |
| Totals | 2,104 | $2,000 | $0.95 |
As can be seen in the table, Henry benefits despite the upward and downward fluctuations in the market. The average cost of the units at the time of the last investment is $0.95 ($2,000 divided by 2,104 units), under his initial investment of $1.00. Yet the value of the stock at that point in time is now $1.40.
Furthermore, dollar cost averaging can act as a form of diversification, enabling investors to stagger their entry into the stock market instead of taking the risk associated with making one large single purchase.
Talk to us if you would like to take advantage of building your wealth with dollar cost averaging.
*Note: past performance is not an indicator of future results.
Intrinsic Private Wealth specialise in providing financial advice to Australian investors. With over 20 years of experience in the finance & investment industry.
General Advice Disclaimer: Information is of a general nature only and has been provided without taking account of your objectives, financial situation or needs. Because of this, you should consider whether the information is appropriate in light of your particular objectives, financial situation and needs. Intrinsic Private Wealth has financial advisers that are authorised to provide personal financial advice. Call 02 9615 4500 for more information on our available services.