When you finally have a master plan for investing, you will need to go into the finer details of how exactly to do it. There is no doubt that you have to build a portfolio, but there is a great difference between dumping all your money into the investment in one go and investing the same amount of money over a period of time.
Throwing all your money in at the same time does result in incredible earnings if you manage to time your investment right, but the reverse is true. A badly timed investment will cause you to lose everything. How will you ever be able to know when is the timing right? You can study economic data and pronoun trends, but all these are nothing but looking at things in retrospect.
Ask yourself this, are recessions the result of certain practices or are these practices isolated as causes because a recession happened? Being able to identify causes does not allow you to predict future market trends because these causes always only surface after the damage have been done. Moreover, the nature of the market is always shifting. Past models and data have never been able to provide any warnings to even top economists and governments of the world on each and every recession in modern history.
However, there is one trend that has remained true for the last hundred years of the world’s economy. The economy is always moving up or down. And this is the reason why one of the most successful strategies for wealth growth and protection is one where money is invested regularly.
One of these regular investment strategies is a monthly investment plan. A regular input based on monthly intervals coincides with the income received by the large majority of salaried workers, making it more logical and relevant than any other investment intervals. A more frequently interval would be troublesome and add on to the administrative work needed for money transfer, while a long interval would mean much of the salaries are sitting in banks and not doing any work for their owners.
We know past trends don’t say much about the future. The upward trend of the market over the last hundred years is no exception. It doesn’t guarantee that the market will continue to go up in the next hundred. So how does a monthly investment plan reduce your investment risk?
Monthly investments works on the simple principle that you can buy a greater quantity when prices are cheap and less with prices go up. In this way, you reduce exposure to higher prices and offset prices by down averaging with greater volume of low prices. The strategy is self regulating and works as long as you are committed to invest regularly.
For example, you invest $1000 every month into unit trust A. In month 1, unit trust was priced at $1.00, so you bought 1000 units. In month 2, the price of unit trust A rose to $1.25, so you could afford only 800 units. The average buy price of your 1800 units is now $1.11. This means that if unit trust A trades at a price above $1.11, you are making money, else you will lose money. In the third month, unit trust A traded at $0.80. Although his means you are losing money, you continue to buy 1250 units of unit trust A with $1000. This down averages your buy price to $0.98. In the fourth month, unit trust A goes back to the price on the first month, which was $1.00.
Over the 4 months, the average price of unit trust A was $1.01, but because you bought more during the low prices and less during the high prices, your average buy price is only $0.98; lower than the monthly average price. Over a long period of time, this self regulating mechanism continues to act; eventually your average buy price will be much lower than the actual monthly average. This means that should you sell your units after a long time, you are going to churn a profit at average prices or even slightly below the average. In this way, your investment risk is greatly reduced.
A monthly investment plan is one of the most secure and low risk ways of investing, even when investing in moderate risk products. However, a monthly investment plan is not useful at all if the product which you invest in goes bankrupt. Moreover, re-investing regularly in a single product is required for down averaging to be effectively, thus limiting your range of products. But these downsides can be mitigated by investing in pooled funds which in turn invest in a range of different products, thus eliminating the risk of loss from any single bankruptcy.
For the monthly investment strategy to work, one must be diligent in maintaining regular investment amounts. No investment is 100% risk free, but adopting appropriate strategies can always reduce them to an acceptable level.