Plenty of investors would give an arm and a leg to have an investment strategy that would work under any market circumstances.
Most of the time, we find it very difficult to time the markets correctly. The more we trade, the less likely we are to make money. Worse, the only certainty we enjoy as a result of such heavy trading is a big pile-up in transaction fees.
Unless an investor has very good access to information and is prepared to look after his investment portfolio full-time, it is difficult for him to make any money from trading.
But people are living longer than ever. It will be imperative for them to try to make their nest-egg work harder so that when they finally retire, they will have sufficient income to enjoy a standard of living which they are used to.
Some investment experts have advocated using a “buy and hold” strategy when investing in stocks. But this will work wonders only when the stock market heads up more or less in a straight line.
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Others have suggested adopting a “dollar cost averaging approach”. This involves setting aside exactly the same sum of money every month to buy into a fund which tracks a widely watched market gauge such as the Straits Times Index (STI).
When the market goes up, you will get fewer shares. But when the market is down, you get a little more.
This approach, however, requires a lot of self-control and patience, as it may take years, or even decades before we see the fruits of our hard work.
For instance, you believe that the Singapore stock market will continue to become more valuable in the next few years, as its listed companies expand their businesses and improve their corporate earnings.
What you can do is to put down a lump sum into the STI ETF (exchange-traded fund) which buys into a basket of component stocks which make up the STI, sit back and wait to reap the returns.
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But as wage earners, most of us will hardly ever have the luxury of having a big sum of money to put down on a single investment. What we can do instead is to put aside a sum of money at the end of every month to invest in the STI ETF.
If you are hoping for a quick short-term return, you will be disappointed. A check shows that in the past three months, the STI ETF moved within a tight band of $3.10 to $3.20.
This means that you will get only a 2 percent to 3 percent return at best from a disciplined approach to buying the STI ETF each month.
But stretch the length of time to three years and the difference becomes obvious. Since the start of 2009, the STI ETF has jumped from a low of $1.45 to as high as $3.38. This means that you would definitely come out ahead in your investment if you had picked up the ETF on a regular basis as the local bourse staged a V-shaped recovery in 2009.
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One merit of this approach is that you will never encounter a situation where the value of your investment is wiped out completely because the stock you hold faces financial or accounting irregularities. Betting on a market, rather than a stock, is always a far safer proposition.
When you adopt such an approach, you give up any attempt to time the market – trying to catch it when it hits rock bottom. It will be a boon for those who do not want to get hurt if the market plunges like a falling knife.
One snag is that it may sometimes take decades for you to see the fruits of your hard work, and few people have that sort of patience.
And in a long market rally such as the bull-run which was experienced between 1992 and 1997, the dollar cost averaging approach will underperform the market.
Much money would have been made by those brave enough to invest their entire nest-egg in 1992. But that would be taking a big wager, considering that at the start of that year, there were fears that the Singapore economy might slip into a slowdown.
The United States market, with its far longer history than the local bourse, offers some insight as to what a dollar cost averaging investor can achieve if he perseveres in his effort.
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Suppose, for instance, this investor entered the US stock market during the crash between 1929 and 1932, he would still have lost about two-thirds of his money, according to a Wall Street Journal Report. But he would have broken even the following year in 1933 and doubled his money in 1936.
What is more extraordinary is the reward he gets if he diligently put aside US$100 every month, starting from the Great Wall Street crash in 1929, and continued to do so for 30 years.
While his outlay was only US$36,000, the size of his investment would have grown to US$411,000, or more than 10 times as much.
Of course, one reason he was able to reap such a spectacular return was that his investment period had coincided with one of the greatest economic growth periods in US history.
Similar growth trajectories are being recorded by huge regional economies such as China, India, and Indonesia – and the SGX offers a slew of ETFs which allow investors to participate in their growth stories.
Setting aside a little money every month into an ETF which tracks the STI or any of the major regional indexes may well reap you handsome returns in the long run. It is a wager worth considering.
Original Source – blog.shareinvestor.com