Dollar Cost Averaging Into The Correction
The bears have been circling for months and have now mauled these markets into a correction. The linchpin was inflation along with an impending rising interest rate environment. The simmering geopolitical tensions between Russia and Ukraine only exacerbated this delicate market and pushed it into a full-blown correction. Over a third of the Nasdaq 100 stocks traded off at least 30% from their highs, over half of the S&P 500 fell 15% or more while the median biotech stock had sold off by 60%. Massive amounts of market capitalization have been eviscerated across the board with many individual stocks selling off 50% or more throughout this downward spiral.
However, during periods of market-wide corrections, investors can purchase heavily discounted stocks at a fraction of the prices these stocks were trading at just weeks prior. As history indicates, establishing positions during corrections can lead to outsized gains over the intermediate term as the selling pressure abates and the macroeconomic backdrop resolves. Portfolio balance is key in all market environments and deploying cash during periods of heavily reduced valuations is essential. Cash can be used opportunistically for snapping up heavily discounted stocks of high-quality companies via patience and dollar cost averaging.
Deploying cash into an environment where the selling is relentless and indiscriminate can be a daunting task. However, for any portfolio structure, especially an options-based portfolio having cash on-hand is essential and these environments is where this cash should be deployed in long equity. This cash position provides investors with flexibility and agility when faced with market corrections. Cash enables investors to be opportunistic and capitalize on stocks that have sold off and have become de-risked. Initiating new positions or dollar cost averaging during these weak periods are great long-term drivers of portfolio appreciation. Absent of any systemic risk, there’s a lot of appealing entry points for many large cap names. Investors should not be too bearish and ignore this potential buying opportunity because it may not last for long.
Dollar Cost Averaging:
Purchasing stocks at the exact bottom is nearly impossible however purchasing stocks at attractive valuations in a disciplined manner over time is possible. Dollar cost averaging is a great strategy to use when anchoring down into a position with an initial sum of capital and following through with additional incremental purchases as the stock declines further. The net benefit is reducing the average purchase price per share in a sequential fashion (i.e., reducing cost basis). Using Meta Platforms (FB) as an example, initial purchase was made at $313.64 which was 18.5% off its 52-week high. Over the course of the next couple of months dollar cost averaging was used to bring the average share down from $313.64 to $278.75, which represents a 27.6% off its 52-week high.
Figure 2 – Dollar cost averaging performed on Meta Platfo