Why choose Regular Savings Plan when market declines

Seeking a strategy for investing during a down market? A plan of systematic, or regular, investing can help you take advantage of changing market conditions — and avoid the futile approach of trying to time the market.

Automatic investment plans are a form of dollar cost averaging, which involve:

Establishing a specific amount and date for regularly adding funds to an investment account

Maintaining this discipline during down markets, when more shares can be purchased because prices are low, and up markets, when fewer shares can be purchased because prices are higher

Investors who take a disciplined dollar cost averaging approach may experience better returns than individuals who invest based on emotions. This is because the investor who makes consistent purchases, even during down markets, likely will be rewarded when the market recovers and those shares appreciate in value.

The following illustration demonstrates the potential benefit of dollar cost averaging. Whereas investors controlled by emotion are more likely to buy during a market peak because they feel confident and sell during a market trough because they are panicked, dollar cost averaging provides a consistent allocation and potential for appreciation.

To illustrate the potential benefits of dollar cost averaging, take a look at the table below. In this hypothetical example, an investor bought shares of a mutual fund at three regular intervals, paying $15, $10 and $20 per share. When the price fell to $10 per share, the investor bought more shares. When it rose to $20 per share, the investor bought fewer shares.

Total invested: $1,500
Number of shares purchased: 108.33
Average price at which the shares traded: $15
Average cost: $13.85 ($1,500/108.33)

The key is that the average cost of the shares was $13.85 per share, whereas the average price on the market was $15 per share. This means that the investor was able to avoid paying an average of an additional $1.15 per share simply by investing regularly and using the power of dollar cost averaging.

Of course, to take advantage of a systematic plan, investors must be willing to stick to the strategy during bad markets. Regular investing does not ensure a profit or protect against loss, and investors should consider their willingness to keep investing when share prices are declining.

Now that we’ve discussed the potential benefits of dollar cost averaging, let’s look at how a systematic investment plan might have worked for an investor during the past two decades. For example, consider a hypothetical investment of $500 at the end of every month in Standard & Poor’s 500 Composite Index, with all dividends reinvested, over the 20 years ending on December 31, 2021.