13 Feb 2019
Wealth Potential
Taking Advantage of Market Volatility
By Emily Matthews | Financial Advisor at Future Key Financial

Case Study: Dollar Cost Averaging

With global political uncertainty, domestic debt serviceability concerns, and a weak Australian Dollar, our domestic market has been and is expected to continue experiencing increased volatility over the short-term.

Although this may seem like a concerning time to invest, volatile market conditions propose significant opportunities for intelligent investors where value and growth opportunities are still present in selected stocks.

One strategy to maximise your investment potential during turbulent market conditions is to establish a dollar cost averaging strategy. Dollar Cost Averaging (DCA) can dramatically increase your wealth over time. The purpose of this strategy is to reduce market timing risk. This essentially means that you are avoiding purchasing a lump sum of units at their peak price, but rather investing gradually over time to average out the price per unit.

The below table illustrates the benefit of Dollar Cost Averaging when $100 per week has been invested over a 20-week period;

Week Amount Invested ($) Unit Price ($) Units Purchased
1 100.00 40.00 2.5000
2 100.00 38.00 2.6316
3 100.00 35.00 2.8571
4 100.00 39.00 2.5641
5 100.00 37.00 2.7027
6 100.00 38.00 2.6316
7 100.00 35.00 2.8571
8 100.00 34.00 2.9412
9 100.00 36.00 2.7778
10 100.00 35.00 2.8571
11 100.00 39.00 2.5641
12 100.00 40.00 2.5000
13 100.00 37.00 2.7027
14 100.00 35.00 2.8571
15 100.00 32.00 3.1250
16 100.00 30.00 3.3333
17 100.00 29.00 3.4483
18 100.00 35.00 2.8571
19 100.00 38.00 2.6316
20 100.00 40.00 2.5000
Total 2,000.00   55.8396

Total Amount Invested:                      $2,000

Total End Value:                                   $2,234*

Gross Capital Gain:                             $234

*Total Units Purchased x End Value Per Unit (rounded)

At the end of the investment period the investor has increased their portfolio value by $234 without the unit price ever increasing more than the starting price.

There are multiple risks and considerations to be considered before embarking on this strategy. Some risks include:

  • Poor investment choices: Portfolio managers and stock traders invest significant time into researching particular stocks before they choose to invest money. The stocks invested into must meet a criteria to achieve investment. The criteria may consist of:
    • correct exposure sought (diversification);
    • capital growth opportunity;
    • correct time-frame expected to achieve results; or
    • income (dividend) potential etc.

Without thorough research and due-diligence checks, you may find you are investing your money into a dud stock which may not offer ideal capital appreciation or income. Or, the company may be exposed to significant risk resulting in forced closure.

  • Withdrawal timing risk: Should you invest into the equity market and need to sell down during market downturn, you may be forced to sell down stocks at a lower capital value than original invested. Typically, when investing into equities, it is recommended to be invested for a minimum of 5-7 years. If you are investing with the idea of redeeming funds in the short-term, purchasing equities may not be ideal for you.

While acknowledging the above risks, it is essential to consider the following questions before engaging with this strategy.

  • What is your investment purpose? Are you focusing on capital appreciation or are you looking to invest into opportunities producing regular income? Your investment purpose plays a huge role in selecting your ideal investments.
  • What is your investment time frame? If you are looking for a savings strategy to meet a savings goal in the short-term, investing into direct equities may not be an ideal investment strategy for you as discussed above in ‘Withdrawal timing risk’.
  • Affordability: If you are investing into direct equities, you will generally have to purchase a minimum of $500 at a time and you must purchase full units. Therefore, if a unit costs $160, you will need to purchase 4x units (equaling $640) at a time. Is this an affordable strategy for you? There are alternative investment options where you can invest minimal amounts from $20 – $200 per month. Contact us to find out more.
  • Risk Tolerance: It is important to clearly understand your tolerance towards risk before considering this strategy. Risk tolerance is assessed in terms of your age, acceptance of volatility and time frame of investment.
  • Speak to a professional: A small investment into a professional’s expertise may make a huge difference to your portfolio performance over time.

All information provided is general in nature. This article has not taken into consideration your personal circumstances. If you are interested in investing, please contact us to arrange a complimentary meeting to discuss your goals.