Going all-in versus drip feeding your portfolio
There a couple of key investment approaches investors should be aware of if considering buying into the market to benefit from the lower share price valuations in some sectors.
Mentioned: CSL Ltd (CSL)
There a couple of key investment approaches investors should be aware of if considering buying into the market to benefit from the lower share price valuations in some sectors.
October has a history of delivering disappointing investor returns – Black Monday 1987 occurred during the month, as did the market crashes of 1929 and 1907.
While past performance is not a reliable indicator of the present or future, this October has also been a bad one. Bond yields are rising, the US-China trade war rhetoric continues and quantitative tightening ramps up in the US and potentially in Europe too.
As share prices fall, some investors will be thinking now is the time to buy into the market, with securities now representing better value than they did just weeks ago.
Telecommunications companies are among those seeing lower valuations
Whether it is best to buy in a lump-sum or to buy shares over time through dollar-cost averaging is a common question. But whatever the strategy, doing something is better than nothing, financial planners say.
Some big name shares have fallen hard during the recent volatility. CSL (ASX: CSL) shares are trading at just $185 at the time of writing, down from $230 at the beginning of September. Bank shares are also down in October, as are telecommunications, infrastructure stocks and utilities companies.
“With recent volatility and pullback in the market we are seeing that valuations have improved to a point where these sectors are looking quite attractive…and we haven’t seen the current price-earnings multiples in some time for these sectors,” says James Ridley, a financial planner with Atlas Wealth Management.
A measured approach
Some financial planners believe dollar cost averaging is the best approach to investing. Investors practising dollar-cost averaging automatically buy more shares or units in a managed fund when prices are lower, and fewer when prices are higher.
This averages the purchase prices over the total period that an investor keeps investing. By investing this way, you are not attempting to pick the lows or highs of the market. Rather, you buy shares over a regular period of time rather than invest a lump sum at a particular point in time.
“Where possible, our preferred recommendation between lump sum and dollar-cost averaging will always be the latter,” says Scott Keeley, financial planners with Wakefield Partners.
“Portfolios built gradually over time with regular investments and even just dividend reinvestment plan participation tend to provide consistent returns and the investor is less concerned with market volatility. They learn to take the good with the bad and focus on the long-term building of wealth rather than trying to jump in and out of the market,” he says.
Atlas’s Ridley believes an investor who buys shares in a lump sum rather than utilising dollar cost averaging is taking on more risk.
“Dollar cost averaging decreases an investor's risk due to the timeframe in which it takes to get into the market and the higher allocation to cash at the beginning. This also takes away the emotional component that we see is quite common when investing and keeps the investor on track,” says Ridley.
He says someone with less experience in stock picking should choose a sensible dollar strategy, such as "trickling funds into a portfolio of different exchange traded funds".
Further bumps in the road
Ridley expects more volatility lies ahead, given geopolitical and macroeconomic concerns overhanging markets at the moment.
“The type of concerns I’m referring to are the current trade dispute, widening interest rate gaps, budget disputes and further emerging market challenges.”
Another advantage of dollar cost averaging is that it forces action.
“Investors looking to invest lump sums that wait to ‘time the market’ can often end up doing nothing or ‘paralysis through analysis’,” says Wakefield’s Keeley.
Keeley too expects more volatility, which makes lump sum purchasing riskier. “In late 2007, at the commencement of the GFC, many investors made the mistake of investing significant sums of money on the back of a 20 per cent fall in the ASX, thinking they had timed their investments perfectly.
“History shows that markets fell a further 30 per cent and investors took many years to recover their investments. ‘Drip feeding’ the funds can smooth out returns,” says Keeley.
According to MLC Financial Planning’s Understanding Investment Concepts document, dollar-cost averaging makes sense when markets are falling. The strategy may be beneficial when markets may fall.
This is because only a fraction of the total amount to be invested is exposed to declines in the market. Also, when the market price falls, your regular investment amount will purchase more investment shares or units, and providing a sound savings regime and ideal investment strategy for people with a regular income but without large sums to invest, according to the MLC document.
However, it also notes that when market prices are trending upwards, a portfolio purchased up front will do better than the portfolio purchased using dollar cost averaging. This is because the investor receives the full benefit of the price gain.
Focus on quality
Whatever the approach, investors should focus on quality companies with solid financials that are better placed to weather a downturn in the market, experts say.
“For those using sell-offs such as this one as their first foray into share market investing which we have experienced [this month], it is our recommendation to gain exposure through high quality index tracking exchange traded funds (ETFs). As the investor's comfort and experience with shares grows, we can broaden their horizons to other listed investment options,” says Keeley.
Ridley also likes ETFs as well as directly buying shares. “We tend to direct attention towards shares and ETFs, to run a core-satellite approach to portfolio manipulation and structuring. I think the argument can be made that managed funds just aren’t as popular as they were in previous years and a somewhat passive approach to investing has already gained momentum across most major markets.”
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Nicki Bourlioufas is a contributor for Morningstar Australia.
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