Participation in financial markets has long been the domain of those in the higher end of the wealth spectrum. Without introduction via family or profession, engagement by the general public is certainly disproportionate to the population. There are good reasons for hesitation, markets are rife with asymmetry of information, lack of involvement in an area of complexity where one has less of an understanding, is not a bad thing.
However, I would argue that those of us not in the higher end of the wealth spectrum can benefit from participation in financial markets. There are things to learn from those who have been successful at growing and maintaining wealth.
Earlier this year Jack Bogle passed away, credited for creating the index fund and championing the wave of passive investment popularity we see today. This gave a great many of the population access to the markets. How to take advantage of that access has still however remained an issue. I believe the even more famous investor, Warren Buffett, recommends one of the best solutions to this issue through Dollar Cost Averaging.
First theorised by Benjamin Graham, known as the father of value investing and Buffett’s mentor, Dollar Cost Averaging is a passive investment strategy which aims to average participation into a market through a passive vehicle such as an index. Put simply, this method of investing advocates investing a set amount on a continuous basis, therefore averaging your participation in the market across the cycle. The theory allows the investor to purchase a greater number of shares when the price is low and less when prices are high, hedging exposure to a downturn and capitalising when markets reflect better value.
Data produced by New York University Economist Edward N Wolff shows in America the top 10% of households, defined by total wealth, own 84% of all stocks in 2016*. This is no coincidence. When central banks attempt to stimulate economies using quantitative easing, they can do so through bond buying programmes, where fixed income products are bought with the objective being an increase of liquidity into the economy. As you can witness through the European Central Banks extended bond buying programme, this lowers bond yields and pushes up prices of other assets as people search for a return. Those who participate in financial markets stand in place to receive the lion share of benefits. This is just one example amongst a myriad of others, however, it illustrates the propagation of wealth associated with involvement in capital markets.
Dollar cost averaging is not the only method available to those with less time and experience, however I regard it as an effective tactic for generating returns over the long term.
Like all investing, this approach requires restraint. You must be consistent and not be lured away by changing market conditions. The Behavioural Gap is the phenomenon that describes the difference between the markets return and the return of the individual investor. Individuals are emotive and it’s those emotions that stop many people from fully benefitting from market return. For the strategy to work, the investor must be committed over the long term. This means that the portion of the wealth you are investing should be viewed as illiquid, and therefore must only represent a share of your wealth you can afford not to employ into other means. Equity markets are unforgiving, but restraint and perseverance can lead to an effective returns.
If you found any of the above interesting, or would like to discuss anything further, please leave a comment or message me via the contact page.
*Article found here: https://www.nber.org/papers/w24085