A certain strategy for an uncertain market
Mark Twain was a great author but 'stupendously incompetent' when it came to investing, according to a feature in Time magazine earlier this year.
Twain lost a fortune on an array of 19th-century start-ups based on such products as a steam pulley, a magnetic telegraph, a protein powder that "could end famine" and an engraving process.
And the creator of such characters as Huckleberry Finn and Tom Sawyer lost money on railway stocks while rejecting an opportunity to invest in Bell Telephone – despite owning one of America's first residential phones.
Yet his gift with words enabled him to describe the perils of investing in ways that are still repeated today.
Take the following: "October: This is one of the peculiarly dangerous months to speculate in stocks. The others are July, January, September, April, November, May, March, June, December, August and February."
His words of regret could be interpreted as saying the sharemarket is inherently risky and trying to identify an ideal time to invest is elusive – highly elusive. Indeed, investors who attempt to time the market – that is, trying to identify the best time to buy or sell – face almost inevitable disappointment.
Market-timers tend to follow the investment herd by buying when share prices are high; only to sell when prices are low. And market-timers often buy stocks or units in managed funds that have out-performed in the immediate past with the unrealistic and unjustifiable expectation that this outperformance is bound to continue.
One way that numerous investors avoid falling into the market-timing trap is to keep on making new investments throughout changing market conditions. This is the straightforward practice of dollar-cost averaging.
Dollar-cost averaging simply involves investing the same amount of money into the sharemarket over regular time intervals – regardless of whether prices are up or down.
Investors practising dollar-cost averaging automatically buy more shares (or units in managed funds) when prices are lower and fewer when prices are higher. In short, purchasing costs are averaged over the total period that an investor keeps on investing, thus the name dollar-cost averaging.
Nevertheless, the core benefit of dollar cost averaging is not so much the price paid for shares; it is the adherence to a disciplined, non-emotive approach to investing that is not swayed by prevailing market sentiment.
The strategy can assist investors to focus on their long-term goals with an appropriately diversified portfolio while avoiding emotionally-driven decisions to buy or sell.
Dollar-cost averaging does not guarantee that investments will succeed; nor does it protect investors from falling share prices. It does help foster sound investment practices.
Super fund members having compulsory and/or voluntary contributions regularly paid into their super balanced accounts are, of course, practising a form of dollar-cost averaging.
A Vanguard research paper published several years ago emphasised the role that dollar-cost averaging also may have in addressing concerns a risk-averse investor may have about investing a large sum into the market immediately before a possible sharp fall in prices.
Source
Written by Robin Bowerman, Head of Market Strategy and Communications at Vanguard.
Reproduced with permission of Vanguard Investments Australia Ltd
Vanguard Investments Australia Ltd (ABN 72 072 881 086 / AFS Licence 227263) is the product issuer. We have not taken yours and your clients' circumstances into account when preparing this material so it may not be applicable to the particular situation you are considering. You should consider your circumstances and our Product Disclosure Statement (PDS) or Prospectus before making any investment decision. You can access our PDS or Prospectus online or by calling us. This material was prepared in good faith and we accept no liability for any errors or omissions. Past performance is not an indication of future performance.
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