Last Updated on January 21, 2024

This article is based on a paper by Nick Maggiulli of Virtus Investment Partners. Past performance is not indicative of future results. This is not investment advice, is for general purposes only, and does not take into account your individual needs, investment objectives and specific financial circumstances.

Let’s say you want to invest and can save 1000 ₪ per month. You join our guided investing program and learn to invest, for example, in a low-cost ETF of a broad-based global index.

In order to move your money from cash into the investment fund, you could either:

1. Buy when the price is high
2. Buy when the price is low
3. Buy every single month (“dollar cost averaging”)

We all know that the worst approach is to buy when it’s expensive and sell after a drop in prices. Though we know this intellectually, many of us unintentionally choose this strategy. When there is hype in the media around a booming market, we are reminded that our money is in cash, and we are losing out on returns every day we wait. So we buy. And then when the market crashes and we’re losing a week’s wage every week, we question the wisdom of our choice, decide that investing isn’t for us, and sell.

A better alternative

If you’re reading this you hopefully won’t make the same mistake. You like to think of yourself as disciplined and smart. Buying high and selling low is silly. Let’s turn it around and buy low, sell high!

If only it was that easy.

Determining what is high and low seems simple. The market doubled between 2009 and 2015. That seemed like a good time to sell.

Those who sold missed out on a further doubling over the following 6 years.

Timing the market is notoriously difficult.

• The best and worst days tend to cluster.
• If you miss the the 25 best days, you will miss out on most of the growth.
• For market timing to pay off investors required accurate forecasts in 70% of the bull markets and 80% of the bear markets.
• Most professionals fail at timing the markets – less than 25% of the recommendations in investment newsletters were correct.
• Down years are not predictive of up years and vice versa.

Let’s think smartly about this

Instead of trying to use our flawed intuition to time the market, perhaps we can come up with a disciplined strategy to do a little better than simply buying every month, regardless of the current price.

Let’s say you decide to save $100 each month in a bank account and buy into the stock market once it has dropped 40%. We’ll call this “Buy the Dip”. Once it drops you put all the money in and then you continue to invest $100 per month until the market returns to its previous peak price before the crash. From then onwards you save in the bank until the next crash.

Clean, disciplined, and effective!

If you did this between 1970 and 1990, you would come out ahead of dollar cost averaging.

If you did this between 1963 and 1983, you would come out 29% ahead:

A perfect investment strategy!

Nope, that was a trick

Actually Nick Maggiulli tricked you. Full credit to him for these analyses.

It turns out that when Buy the Dip wins, it wins by a little, but when it loses, it can lose by a lot. This is often caused by a rising market that has no 40% dips. It just keeps going up and you lose out on all that growth.

I know what you’re thinking: let’s reduce the threshold. What if I bought into the market every time it dropped 10% or 20%? Surely that would help?

Well…

…you are less likely to outperform the standard dollar cost averaging with smaller dip thresholds. In other words, buying in more often, after smaller dips, is a worse strategy.

So, smaller dip thresholds bad, large thresholds good? Not quite. While you are more likely to beat dollar cost averaging with a large threshold, you are also more likely to significantly underperform. In other words, when you do worse, you do much worse:

Let’s take the dip threshold of 50% (the red part of the chart). In the previous table it looked like waiting for a 50% threshold outperformed dollar cost averaging 38% of the time. The problem that can now be seen is that when it underperforms (62% of the time), it often significantly underperforms (the red chart stretches significantly towards the left).

Conclusion: No matter how you spin it, a systematic strategy to buy when the market is low is very likely to do worse than just buying the same amount every single month.

But…dollar cost averaging is hard!

It’s hard to stick your head in the sand and ignore everything that is going on in the markets.

It’s hard to buy when everyone else is saying that the market is about to crash.

It’s also hard to buy when markets have already crashed and everyone else is panicking.

It’s all hard. So the best solution is to automate. Take away the human component:

• Set up a monthly transfer from your bank account into your investment account
• If you need to convert currency and buy an ETF, set a calendar reminder and do it on autopilot. Don’t start worrying about limit orders or saving a few cents. Or if your spouse or child doesn’t understand investment, get them to do it.
• Don’t have apps on your phone that alert you when the market moves

Investing can be easy

I love that simple is often the proven best in investing. Automatically dollar cost averaging into a global ETF. What can get easier than that?

If you would like us to walk you through how to open an account and get started, check out our self-paced guided investment program.