Investing: Dollar-Cost Average to Reduce Risk

There is plenty of uncertainty in the investment markets right now for those following the news and it spooks investors. This is our view communicated to clients who have a plan to feed money into the markets each month (dollar cost averaging) but are now feeling uncertain.

I understand how you feel when following investment commentary and news flow but I learnt the hard way a long time ago that it is a bad mistake to hold off from investing in uncertain times because the market doesn’t wait for someone to ring a bell and say the coast is clear before it goes up. The market almost always goes back up and beyond while the news flow is still bad, and then most humans are too grumpy to invest then thinking “I’ll get in when it comes back down”

My experience is that for sure we don’t want to go all in today or tomorrow but we should just dollar cost average our way in so that if the market goes down a lot in the next 12 months, we should be delighted that as buyers we get to buy more and more for our money. We won’t be delighted of course if the market is say 20% lower in 12 months because we will feel like “I should have waited and not thrown away $5k, $10k, $20k with my investments. I could have had a bloody good holiday for that money”

We just have to accept we don’t know when the market is going to crash, and we don’t know when it will rebound and we need to act like we know that we don’t know. I’ll give you a couple of good examples.

March 2020 – COVID hits the markets

Markets were down 30% but it seemed like a pretty huge hit to the economy and it felt like there is no way that the market can stay at a level even 30% off of it’s peak. However the Fed and other governments went money printing and it boosted asset prices, as well as a lot of tech stocks receiving a lot of investment money.

I had a few investor clients bailed out of their investments completely based on newsflow. They couldn’t stomach the paper losses which was a shame for them financially because the market bounced back surprisingly strong and fast.

I had no problem whatsoever holding my own investments but I didn’t feel especially terrific about a client who was $100k down after a month of investing with Windsor Wealth. He is now more than $100k up.

I had a client who was starting to invest by monthly direct debit at that point and she held off due to uncertainty in the news. She just started investing in the last month. She would have been buying back then with Dow Jones index at 19,000. It is now just under 35,000

2008 Global Financial Crisis:

From an investment perspective this was much scarier than March 2020. The Dow Jones index went from 11,000 down to 5,500, the newsflow was shocking and it felt like the banking system was going to fall apart. At 5,500 it didn’t feel like the time to buy. It felt like we were going to lose another 50%.

It took about 2 LONG years for the market to regain losses, but whether you bought at 11,000 on the index, or 5,500 on the index, or probably somewhere in between, the point is the index is now just short of 35,000 and there wasn’t really a time in those 2 recovery years (or the years that followed) where it felt very safe to get back in. People forget now but there was a huge amount of talk about Greece collapsing and collapse of so called “PIIGS” (Portugal, Italy, Ireland, Greece, and Spain)

If you dollar cost averaged into the crisis and through the crisis, it would have been uncomfortable in the short term (“I invested $1,000 last week, and it’s worth $800 this week!) but it would have been a spectacular result in the long term as a result of getting significant funds to work at an uncertain time

I personally put money to work at this time when it felt like total doom and gloom. I wasn’t doing what I wanted to do. I was doing what I felt like I should do. It felt like an act of masochism to plow money in week after week and see such immediate loss of value. I felt like I could have gotten more use out of my money by burning cash to get some warmth! but I kept on doing what I should do. I also felt for a year like “I’m doing the right thing, I’m getting money to work when there is maximum fear and pessimism but I’m not getting rewarded, I’m getting smashed, and people who are doing nothing, who aren’t well enough informed to get their money to work, they’re not losing money like me” That’s how it felt in the moment – not great, almost not fair. But the people who weren’t losing money like me, weren’t invested like me, so when the market started to work and work some more, there were no gains for those people. Most of them only got interested in markets again in 2019!

So yes there is uncertainty now but if you have a plan to dollar cost average, it won’t matter if the markets drop as long as you stick to the plan, and have the ability to accept paper losses, because being able to stomach paper losses is eventually what you will be paid for. Investing is meant to be hard or else everyone would be putting all their money in right now (the result would be total chaos) It’s totally healthy that we don’t go up in a straight line.

So I would proceed 100% in line with the dollar cost averaging plan. Be prepared for discomfort but it will work well in the long run. I’d rather dollar cost average in when there is discomfort and a bit of fear than when there is total optimism and euphoria because that’s when there is far greater risk (I’m thinking of 1987, 1999, and 2007 but even in those worst possible times, if you were dollar cost averaging your way in, everything would have turned out fantastic)

The bottom line is, be diversified, have your asset allocation right for your investment time horizon, and keep on dollar cost averaging when you feel like you don't want to, because that is often the best time of all.