A lot of “smart” investors will tell you never invest when the market has been moving up, but wait until there is a pullback in order to buy at a bargain price. Is that really a good strategy?
The biggest problem with this strategy is you never know when the market will bottom out and start rising again. Even if you did, would this strategy lead to incredible returns?
In a recent blog post, market analyst Nick Maggiulli decided to compare dollar-cost averaging against this perfect foresight of waiting to buy in until the markets hit a recent low, right before they started the next rise. He found if you randomly picked any trading day for the Dow Jones Industrial Average since 1970, there was a 95% chance the market would close lower on some other trading day in the future. Would that be the time to buy?
Looking back, he found that just one in 20 trading days closes at a price that will never be seen again. Between those days, our astute investor would hoard the cash that would otherwise be invested and put it all in at the low point. Maggiulli found his hypothetical “buy at market lows” strategy would outperform a simple strategy of investing the same amount every day in the market by 0.4% a year.
And remember, this strategy requires you to have perfect foresight, which none of us have. In the real world, you are 95% likely not to get the best possible price when you buy into the market. There is no alternative but to accept this.
Even so, this is actually good news. It means you don’t need a crystal ball to get pretty much the same returns that you would have gotten had the crystal ball somehow given you a view of the future. All you have to do is continue to invest in a disciplined manner from now until you need the cash and if the past is any indication, the market itself will take you where you want to go.
Beth Jones, RLP®, AIF®, CeFT®
Certified Financial Transitionist®
Registered Life Planner
Third Eye Associates, Ltd. is a Registered Investment Adviser