As you already know, the market can go down as well as up. And while it’s tempting to take action in a downturn, one of the best ways to ride the waves of the market is to have a plan and stick to it. Know your long-term goals, invest regular amounts each week and benefit from pound cost averaging.
What is pound cost averaging?
Pound cost averaging refers to investing small amounts of money regularly. It can teach you a non-emotional approach to investing because you’ll be investing no matter what state the market is in.
You’ll capture the average return of the market because you’ll be buying regularly – when prices are high, low and everything in between. This means that over time, you could end up with a larger investment position than if you only bought into the market once or twice a year. 💰
Time in the market vs timing the market
While in theory, it’s possible to time the market – to sell just before prices go down and buy back just before they rise – in practice, it’s almost impossible to do, and you’ll lose lots of sleep trying! Plus, selling up and being out of the market can be extremely costly.
For example, if you’d invested £1,000 in the Moneybox ‘Balanced’ Starting Option at the start of 2012 and left it alone for 10 years, it would’ve been worth almost £2,800 by the start of 2022 – an average annual return of 10.9%.* The chart below shows how these investment returns measured up against the returns of cash savings in the same period.
But, if you tried to time the market over this same period, you might have missed the best trading days. Even though your instincts would tell you otherwise, getting out of the market can be the costliest mistake of all. As we mentioned earlier in this series, a JP Morgan study from 2022 found that, over a 20-year period, seven of the 10 best days in the market (based on the S&P 500 index) occurred within 15 of the worst days.
We saw examples of this in 2020. Covid-19 rocked the markets and caused widespread declines, which led to never-before-seen stimulus measures from governments around the world. Yet, the S&P 500 increased by 9.4% on March 24 from the day prior, its biggest one-day gain since 2008. The Dow Jones Industrial Average also soared 11.4% on the same day, making this its strongest day since the Great Depression in 1933.**
So, even though the initial dips were scary and might’ve led some investors to sell up and get out, those investors who held onto their positions and spent more time in the market would have likely benefited from the market rebounds.
Pound cost averaging vs lump-sum investing
Pound cost averaging is often compared with lump-sum investing. With pound cost averaging, you’ll make regular contributions, which don’t have to be large. With lump-sum investing, you’ll invest a larger amount, but you won’t do it as often.
If you opt for lump-sum investing, you might miss out on the market average and your money might not be able to buy as much if the market is high when you make your investments. 💷
You can look for a middle ground between pound cost averaging and lump-sum investing. For example, if you opened a Stocks & Shares ISA, you might make an initial lump-sum investment and then keep up with regular weekly or monthly contributions. Since all investing should be considered as long term, you could even make more lump-sum payments over the years alongside your regular contributions.
At Moneybox, we offer both lump-sum investments and regular contributions. You can set up a weekly deposit, a monthly payday boost, make one-off deposits or choose to round up the spare change from your everyday purchases – tailoring your contributions to whatever works best for you. 🧵
So, what next? As an investor, it’s important to be prepared for the ups and downs of the stock market. If you invest weekly, like hundreds of thousands of Moneybox users, the smartest decision you can make is to leave your money invested, know your long-term goals and continue to benefit from pound cost averaging. 📈
Question one: Which of these is a benefit of pound cost averaging?
- It helps to keep your emotions in check
- Your gains might be slow at first
- Missing your regular contributions will reduce your earnings potential
Question two: True or false: ‘pound cost averaging is most effective over the long term’.
Question three: Which of the following deposits are available from within the Moneybox app?
- Monthly boosts
- Weekly deposits
- Initial lump sum
- All of the above
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Question one: It helps to keep your emotions in check
Question two: True
Question three: All of the above
*Investing returns are based on our Balanced portfolio and include all fees. Where available, returns data for the selected funds have been used. Where the fund has a shortened performance history, we have used the appropriate index to simulate performance. Both the potential risk and potential reward is greater with investing. It should be regarded as longer term (at least 5 years) and you may get back less than you invest. Past performance is not a reliable guide to future performance.
Sources: Morningstar, MSCI.
**Source: Financial Times
All investing should be regarded as long term (minimum five years) and historic performance isn’t a guarantee of future returns. The value of your investments can go up and down, and you may get back less than you invest. We don’t provide investing advice, and investors should make their own investment decisions or contact an independent adviser.