While recent market volatility is concerning for investors, for those with a long term plan to accumulate wealth there is a silver lining. In fact, for investors who are committed to regular savings, declines in investment values could ultimately leave them in a better position.
The lower prices provide an opportunity to “buy low and sell high”. This works well with a strategy of regular savings. Commonly known as dollar cost averaging, this has long been a popular investment approach. Investing small, equal amounts regularly over time effectively ‘averages out’ your purchase price for investments.
By contributing an equal amount to an investment regularly you will buy more of an underlying investment at lower prices, and fewer at higher prices. The overall effect is to reduce the impact of volatility from investing in a volatile asset class.
This approach to saving is common in superannuation, where workers consistently add regular amounts to their investment via their contributions.
For example, the maximum employer contribution for those under 50 is $30,000. If an investment is $1 per unit, that contribution could buy 30,000 units (if tax is ignored). If due to market volatility the price fell 10% to 90c, the same contribution buys 33,333 units. As the market recovers, a greater number of units means that the investor’s fund should be worth more.
To illustrate that, let’s look at an example. We will assume that an investor puts $30,000 into an investment. In scenario 1, the investment returns are a steady 6% per annum. Over 10 years, this takes a $1 investment to $1.69. In scenario 2, we will assume that in the first year the market falls 15%, but then recovers to the same level as scenario 1 over 10 years.
As a result of the fall, in years 2 to 10, the $30,000 investment is made a lower prices that in scenario 1. This means that investor accumulates more assets, so their fund is eventually worth more. This is illustrated below;
As you can see, although the investor has gone through a period of volatility (and stress), in the long run they are better off. So for those on a regular savings plan, it is clearly best to stick with the strategy through tough periods.
Other opportunities that might exist during a market downturn include;
A review of Asset Allocation: is the current asset mix of your portfolio going to achieve your goals? If not, this might be an opportunity to make a change.
Investment re-structuring: Are your assets held in the right tax structure? If not, a market downturn might create an opportunity to move assets with lesser capital gains tax consequences.
For those building assets for the future, a market downturn need not be a major roadblock. With the right strategy, it should only be a speed hump on the way to completing the journey.
WARNINGS AND DISCLOSURES: This material has been prepared for general information purposes only and not as specific advice to any particular person. Any advice contained in this material is General Advice and does not take into account any person’s individual investment objectives, financial situation or needs. Before making an investment decision based on this advice you should consider whether it is appropriate to your particular circumstances, alternatively seek professional advice. Where the General Advice relates to the acquisition or possible acquisition of a financial product, you should obtain a Product Disclosure Statement (“PDS”) relating to the product and consider the PDS before making any decision about whether to acquire the product. You will find further details of the service we provide and any cost to you within the Financial Services Guide. Any references to past investment performance are not an indication of future investment returns. Prepared by EP Financial Service Pty Ltd ABN 52 130 772 495 AFSL 325 252 (“Elston”). Although every effort has been made to verify the accuracy of the information contained in this material, Elston, its officers, representatives, employees and agents disclaim all liability (except for any liability which by law cannot be excluded), for any error, inaccuracy in, or omission from the information contained in this material or any loss or damage suffered by any person directly or indirectly through relying on this information.
EP Financial Services Pty Ltd
ABN 52 130 772 495 AFSL 325 252 (“ELSTON”)
GPO Box 2220
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