Eighth Wonder of the World?

Whenever we have a bull run followed by a downturn or periods of market volatility, such as witnessed recently in the region, it is interesting to see investor behaviour.

Some investors quickly sell out of what they thought was a great investment opportunity. Others realise that a particular investment was a bad decision, but still don't sell out primarily due to loss aversion. Both sets of investors get upset about, among several other factors, the bad timing of their investments.

The issue of timing also crops up after a correction or a downturn. Investors hesitate to re-enter the markets speculating about the right moment. They hold back till the market is well into a bull run, missing much of the upside. All of these investors wish they had either professional help or a method that will help them time the market. But predicting the market is difficult even for professionals.

So is there a method by which the average retail investor can invest? The answer is, surprisingly, yes. Through a simple method used the world over called dollar-cost averaging, which I like to refer to as the Eighth Wonder of the World, you can opt out of the guessing game of trying to buy low and sell high.

With dollar-cost averaging you invest a specific dollar amount at regular intervals regardless of the investment's share (unit) price. By investing on a regular schedule you can take advantage of market dips without worrying about when they'll occur. Your money buys more shares when the price is low and fewer when the price is high, which can mean a lower average cost per share over time.

The most important element of dollar-cost averaging is commitment. How frequently you invest (monthly, quarterly or even semi-annually) is less important than sticking to your investment schedule. Its purpose is to take the guesswork out of investing by providing you with an average cost per share that's lower over the long term. It obviously works well when prices are rising, but you will also find that the method reduces your loss over a lump sum investment when prices are falling.

Dollar-cost averaging is popular among people who invest in volatile funds. If a fund's share price fluctuates a lot, dollar-cost averaging can help reduce the average cost per share over time when you are investing, and similarly help increase your profit when you are systematically withdrawing your money.

The other important aspect is that this method encourages those investors who are averse to saving, to build capital over a period of time by investing small amounts at regular intervals. In fact you should be able to ask your bank to debit your account and invest in a particular fund or selection of funds based on standing instructions.

I would encourage the banks in the region to offer this service more aggressively.

It's not for everyone, but many investors believe this systematic approach to investing and withdrawing is an effective way to accumulate wealth over the long term. However dollar-cost averaging doesn't guarantee a profit or eliminate risk and it won't protect you from a loss if you sell shares at a market low. Before adopting this strategy, you should consider your ability to continue investing through periods of low price levels.

- The writer is a Senior Director at Franklin Templeton Investments. The views expressed in the article are his personal opinion.