In my last post I looked at the buying strategy of ‘dollar / pound cost averaging.’
When it comes to building a share position without worrying about the direction of the share price or overall market, this is the easiest and most useful strategy and the one I recommend above all. It can also be automated, which is a key principle of the Child Millionaire strategy.
In some circumstances, such as when you have a one-off lump sum to invest, or because you are a keen market watcher – an obsession I don’t recommend for the Child Millionaire or any other long-term investing approach – and you want to take advantage of a substantial sell-off in the overall market, jumping in all at once can be justified. As discussed previously, the lower the price on a dividend paying share the higher the yield and the better the return over time. So occasionally it pays handsomely to leg in at certain points.
‘Doubling down’ or ‘doubling up’ is an active strategy of buying shares in the same company at two different times and prices to get an overall better price for your shares when the market is trending up or down.
So let’s assume that you wanted to invest roughly £1,000 into Standard Life shares for your Child Millionaire portfolio but you don’t know where the market is going.
Like me, on 18 April 2011, you purchased 250 shares of SL for your Child Millionaire portfolio. The share price was 211.202p including the dealing costs for a total investment of £528.01. This is roughly half of your intended investment and you wait and see whether the share price is trending upward or downward before pulling the trigger on the second half.
After watching the price of SL plummet in early August on the Greek bond death spiral, US unemployment data and mountains of other macro-economic data generally unrelated to the performance of SL as a company, the price hits 172p a share on August 8. You are on holiday and you miss this low but buy on 10 August for 181p a share. With the dealing costs of £12.50 commission and £22.63 in UK stamp duty your total cost is £487.63. When added to the original purchase of £528.01 your total cost is £1,015.64 / 500 shares = 203.128p per share. So by doubling down you’ve bettered your initial price of 211.202p and thus boosted the yield on the shares from 6.16% (13p trailing dividend / 211.101p X 100% = 6.16%) to 6.4% (13p / 203.128p X 100% = 6.4%), which means greater long-term compounding.
So this is doubling down. You bought half your initial intended investment at one point and price and the second half at a lower price thus doubling the initial investment downward with a lower overall price than if you’d have bought the full 500 shares on 18 April.
Doubling up is simply the same method but in a rising market. Say you bought your initial 250 shares on 10 August at 181p a share and then you think the price is going to trend upward so you buy the second lot of 250 shares on 27 September at 207p per share. Your average price is thus 250 shares x 207p per share = £517.50 plus £12.50 commission and £25.88 stamp duty = £555.88 plus the £487.63 for the 10 August purchase so your total cost is £1,043.51 / 500 shares = 208.702p per share. Note the impact of dealing costs on your final cost.
A few key points about doubling up or down:
- You need to watch the market quite closely to pick your entry points, though in all probability you will never hit the optimal price point. You might double up on a rising share price but then the share price drops and had you waited you could have doubled down. Conversely you might miss a good entry point because you think the share price is going lower but instead it rebounds. Or perhaps emotions interfere with your ability to pull the trigger when the price is dropping because you fear that it will drop even more and your portfolio will be wiped out. There are techniques to mitigate these issues that I’ll address in later posts.
- Be aware of how dealing costs and other charges affect your final price. When doubling up or down you will pay twice the commission that you’d otherwise pay with a single investment. You will probably also pay more than if you use a broker that allows you to make regular purchases at a very low commission. These dealing charges and stamp duty (if you live in the UK or a jurisdiction that charges it) will have a profound impact on your overall average price, especially if you are making relatively small investments. In the double up part of the above example, the effect of the dealing charges and stamp duty resulted in the average overall price being relatively high. In fact higher than the price of the second share purchase because of the amplified impact of the charges on such a small purchase. For small investments stick with low-cost dollar / pound cost averaging to minimize the impact of dealing costs.
- Doubling up or down is more time consuming and stressful than passive dollar / pound cost averaging and it suffers from all of the issues around market timing that I’ve discussed previously.
Despite the impact of dealing costs and the issues around market timing, in the right circumstances and with large enough purchases, doubling up or down can be a powerful strategy. I’ll look at a turbo-charged version of this strategy in my next post.