A less painful way to invest

PHOTO: A less painful way to invest

SINGAPORE - Singapore's stock market continued to sink deeper into the red in the last couple of weeks despite a brief rebound on Thursday on stronger United States economic data.

The prospect of a US military strike against Syria and concerns about overheated Asian markets, however, will continue to hang over the local bourse for a while. Another key worry is that the US Federal Reserve is about to scale back its massive stimulus programme that has helped to keep markets buoyant around the globe.

In periods of market volatility, one popular investment strategy to adopt is dollar-cost averaging - that is, buying a fixed dollar amount of a particular stock on a regular schedule, regardless of the share price.

So more shares are bought when prices are low and fewer shares are purchased when prices are high.

The idea is that over time, the average cost per share of the stock will get smaller and therefore, this lessens the risk of investing a large amount upfront in a single investment at the wrong time.

This is a tried-and-tested formula, but a study last year by mathematics majors at mutual fund giant Vanguard put paid to this theory by offering evidence that it is better to put your money in the market all at once.

In the study, entitled "Dollar-cost averaging just means taking risk later", the firm took two sums - $1million and $20 million - and compared the historical performance of investing these amounts in dollar-cost averaging versus lump-sum investing across three markets - the US, Britain and Australia.

Their main finding: The longer one took to invest, the lower the return.

On average, they found that the lump-sum approach outperformed dollar-cost averaging about two-thirds of the time. This finding is consistent with the fact that the returns of stocks and bonds exceeded those of cash over the study period in each of these markets.

It concluded that if an investor expects such trends to continue, is satisfied with his choice of assets, and is comfortable with the risk and return of each strategy, the prudent action is to invest the lump sum immediately to gain exposure to the markets.

But if the investor is concerned with minimising downside risk and potential feelings of regret (from investing a lump sum immediately before a market downturn) then dollar-cost averaging makes more sense.

It warns, however, that this choice should be weighed against the fact that returns of cash are lower than returns of stocks and bonds, and that delaying investment is itself a form of market-timing - something few investors succeed in.

Despite these arguments, I still think that dollar-cost averaging is a strategy that works better than lump-sum investing in the current market situation.

Delaying your purchase into stocks but sticking to a regular purchase schedule is better than trying to time the market with a large investment.

My guess is as good as yours on when the market could bottom out and start its upward trend again.

Certainly, dollar-cost averaging beats lump-sum investing in a volatile market on a downward trend since it blunts losses.

I wished I had given more thought to this strategy when I plonked all my spare cash into a couple of blue chips about a month ago when - now with hindsight - the market was oversold.

With no extra cash available, I grimly watched my investments sink deeper and deeper into the red as the market sell-off began when speculation over moves by the US Federal Reserve to taper its stimulus began to take hold.

I did the next best thing: I waited for the market to rebound slightly and then I sold my positions at a significant loss. It pained me, but at least this enabled me to reclaim my capital, and now, I'm waiting for further market corrections before investing again. And this time, I won't be investing all of it.

You guessed it, I will be investing in smaller chunks instead, at regular periods of time. This way, I stand to gain from the biggest benefit of the dollar-cost averaging strategy - minimising regret.

As humans, we feel our losses more than our gains.

So, even if I made a smaller return through dollar-cost averaging than if I made a lump-sum investment, it would not hurt as much as if I had put in all my money - only to watch the investment plunge again.

stinvest@sph.com.sg


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