Pound Cost Averaging might be your best friend in a voliatile market
Market volatility over the last few years, has discouraged many investors from investing new funds, but this may be working against you. It’s perfectly normal human nature to be disappointed when your investments fall in value and you may even have considered stopping your monthly investment altogether. But is this the right course of action to take? The answer may not be quite what you expect. Let me explain.
Pound cost averaging may just be your best friend in a volatile market. Pound cost averaging is a term which refers to investing money in equal amounts at regular intervals, usually on a monthly basis. To make things simple, let’s assume you have £10,000 to invest and rather than invest it all in one go you decide to invest an equal amount of £1,000 for the next 10 months.
In scenario A we have assumed that the market increases steadily each month from a starting price of 40p and at the end of the term is 85p. At the end of the 10 months the underlying value of the investment has increased to £15,239 and the average price per share or unit is 59p
Looking at scenario B, we have assumed that the markets are volatile and the price goes up and down during the period. Again the starting price is 40p and the end price this time is 60p and the price rises and falls during the period. At the end of the 10 months the underlying value of the investment has increased to £19,133 and the average price per share or unit is 34p.
| Value of Units |
| A = (16,993 x 0.90) = £15,239 |
| B = (29,436 x 0.65) = £19,133 |
|
Scenario A (a steadily rising market) |
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|
Year |
Price |
Investment |
Units Bought | ||
|
|
|||||
|
1 |
£0.40 |
£1,000 |
2,500.00 |
||
|
2 |
£0.45 |
£1,000 |
2,222.22 |
||
|
3 |
£0.50 |
£1,000 |
2,000.00 |
||
|
4 |
£0.55 |
£1,000 |
1,818.18 |
||
|
5 |
£0.60 |
£1,000 |
1,666.67 |
||
|
6 |
£0.65 |
£1,000 |
1,538.46 |
||
|
7 |
£0.70 |
£1,000 |
1,428.57 |
||
|
8 |
£0.75 |
£1,000 |
1,333.33 |
||
|
9 |
£0.80 |
£1,000 |
1,250.00 |
||
|
10 |
£0.85 |
£1,000 |
1,176.47 |
||
|
|
|||||
|
Totals |
£10,000 |
16,933.91 |
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|
|
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|
Average price of units 10,000/16,933.91 = 59p per unit |
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|
Scenario B (a normal rising market) |
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|
Year |
Price |
Investment |
Units Bought | ||
|
|
|||||
|
1 |
£0.40 |
£1,000 |
2,500.00 |
||
|
2 |
£0.20 |
£1,000 |
5,000.00 |
||
|
3 |
£0.30 |
£1,000 |
3,333.33 |
||
|
4 |
£0.40 |
£1,000 |
2,500.00 |
||
|
5 |
£0.35 |
£1,000 |
2,857.14 |
||
|
6 |
£0.25 |
£1,000 |
4,000.00 |
||
|
7 |
£0.35 |
£1,000 |
2,857.14 |
||
|
8 |
£0.45 |
£1,000 |
2,222.22 |
||
|
9 |
£0.40 |
£1,000 |
2,500.00 |
||
|
10 |
£0.60 |
£1,000 |
1,666.67 |
||
|
|
|||||
|
Totals |
£10,000 |
29,436.51 |
|||
|
|
|||||
|
Average price of units 10,000/29,436.51 = 34p per unit |
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The price of units can go down as well as up. Past performance is not necessarily a guide to future performance.
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| Over the past few years, stockmarkets have fluctuated considerably due to a number of different factors all affecting the price of units of investments. This can be disturbing if you have a lump sum investment. However, if you save regularly, excellent results can be achieved in stockmarket volatility. As you can see from the graph and the table, investing in a changing market gives a better return, as the average price of the units purchased is much less than if the market rises steadily.
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