Thursday, September 10, 2009

Steady Investing Into the Abyss

Continuing with yesterday’s parable about an investor, Donna, who ignores the market over the past year and breaks even plus some dividends, Canadian Capitalist observed that she could have earned even more money by reinvesting dividends. This led me to think about the benefits of steady investing during down markets.

In my story Donna collected $2020 in dividends while her $100,000 portfolio of S&P TSX units (ticker: XIU) was unchanged at $16.80 per unit from 2008 October 2 to 2009 September 8. However, if she had reinvested her dividends into XIU units, her gain would have been $2440, assuming a $10 commission on trades. This isn’t such a dramatic improvement, but she might think that an extra $420 is better in her pocket than elsewhere.

What if Donna had invested her $100,000 slowly over the year instead of piling it in all at once? Spreading the money into 12 equal-sized purchases at the start of each month, Donna would have come home to just over $117,000! This is a 17% return over a “terrible” year for stocks.

Of course, not many of us have large lump sums to invest like this, but investors in the working phase of their lives can make regular contributions to savings. For these investors, big drops in stock prices are an opportunity to pick up more stock when it is cheap.

7 comments:

  1. If Donna had set up a DRiP with either her investment firm or with the company that the stock is with, she saves the service fees too!

    -- DriPily C8j

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  2. Here is some controversial observations:

    Emerging markets (based on MSCI Emerging Market Index) bottomed in late November 2009 and again in early March 2009. Emerging markets was the area that fell the most during 2008 due to the inclusion of China, which was in a major bubble before the correction.

    US and Canadian markets (based on S&P500 and TSX composite index) bottomed in March 2009. US and Canada did not fall as much in 2008.

    The observation is interesting in that the reentry points for the different markets were different. After a market, it is probably a good idea to start entering asset classes that fell the most and maybe even wait a while for those who haven't fell as much.

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  3. Big Cajun Man: For small accounts, DRiPs are a great way to save on fees.

    Henry: I have never been able to predict short term market directions, and so I would just invest steadily without trying to time the market.

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  4. It just goes to show you, the year has only been "terrible" if you include the plummet last October. Your monthly investments largely avoid that plummet by having only 1/6 of the money invested at the time it occurs.

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  5. Patrick: The key to Donna's success was to continue buying after the big drop.

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  6. Interesting that reinvesting dividends didn't make that much of a difference despite the volatility of the past year. Perhaps, it only makes a difference over the long term?

    It is heartening to the benefits of investing regularly.

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  7. CC: The extra amount over $100,000 due to dividends went from $2020 to $2440 when dividednds were reinvested. This isn't a big percentage of principal, but the dividend amount is 21% bigger than it would have been.

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