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THE old cliche — 'buy stocks cheap and sell them dear' remains an aspiration for most investors. Those who bought rather than sold the broader market index Nifty when it crossed 6000 turned the phrase on its head. The quest for an investment tool that helps investors achieve this dream has given birth to the concept of value averaging.
Identifying the top and the bottom may be well-nigh impossible, but varying the amount of money to be committed could help investors and that is the crux of value averaging.
Most investors are familiar with the concept of rupee-cost averaging or systematic investment plan of a mutual fund, where one invests a fixed sum at regular intervals. For instance, one may opt to invest Rs 5,000 per month.
As the markets rise (s)he will end up getting a lesser number of units, but as the markets go down the number of units will rise. In other words,
this ensures a lower average cost of units in a fluctuating market.
Value averaging is a more evolved concept than rupee-cost averaging. Here the investor is expected to adjust the amount to be invested in tandem with the direction of the market — up or down — to achieve a prescribed value of the fund.
This can be illustrated with an example. First decide how much value should your mutual fund units be worth at the end of each month. If, for instance, you decide that you want Rs 1,000 added to your equity mutual fund each month, you will start with Rs 1,000.
Let us assume that at the end of the first month you find that the value of this investment has fallen to Rs 900 due to a correction in the markets.
In that case, in the next month you will invest Rs 1,100 to ensure that you have Rs 2,000 in your fund. By the end of the second month, say, you find that the value of these units have gone up to Rs 2,100, then in the third month you will invest Rs 900, taking the value of the units to Rs 3,000.
Here you invest more when the prices fall and invest less when they rise. In other words, you buy more when the prices are low and you end up investing less when the markets peak.
Smart investors put in more money when the markets are at a low and prefer to park their funds in safe instruments such as short term fixed deposits when markets are on a rampage. In the aforesaid illustration, one should invest Rs 100, that is not being invested in the third month due to a rising market, in a safe instrument or keep it in a savings bank account to earn interest rather than spending it.
It must be borne in mind that the same money will be utilised by investors when equities fall. After all, to get the best out of this strategy one should have ample funds during a bear market.
Also, a word of caution. Money so invested should be put into a diversified mutual fund or a well-diversified index such as Nifty.
Other than these, if it's invested in a stock, sector fund or a sectoral index, the strategy of value averaging may lead to a disaster if the investor is not well-versed with the future of this narrow investment gamut.
nikhil.walavalkar@timesgroup.com
Identifying the top and the bottom may be well-nigh impossible, but varying the amount of money to be committed could help investors and that is the crux of value averaging.
Most investors are familiar with the concept of rupee-cost averaging or systematic investment plan of a mutual fund, where one invests a fixed sum at regular intervals. For instance, one may opt to invest Rs 5,000 per month.
As the markets rise (s)he will end up getting a lesser number of units, but as the markets go down the number of units will rise. In other words,
this ensures a lower average cost of units in a fluctuating market.
Value averaging is a more evolved concept than rupee-cost averaging. Here the investor is expected to adjust the amount to be invested in tandem with the direction of the market — up or down — to achieve a prescribed value of the fund.
This can be illustrated with an example. First decide how much value should your mutual fund units be worth at the end of each month. If, for instance, you decide that you want Rs 1,000 added to your equity mutual fund each month, you will start with Rs 1,000.
Let us assume that at the end of the first month you find that the value of this investment has fallen to Rs 900 due to a correction in the markets.
In that case, in the next month you will invest Rs 1,100 to ensure that you have Rs 2,000 in your fund. By the end of the second month, say, you find that the value of these units have gone up to Rs 2,100, then in the third month you will invest Rs 900, taking the value of the units to Rs 3,000.
Here you invest more when the prices fall and invest less when they rise. In other words, you buy more when the prices are low and you end up investing less when the markets peak.
Smart investors put in more money when the markets are at a low and prefer to park their funds in safe instruments such as short term fixed deposits when markets are on a rampage. In the aforesaid illustration, one should invest Rs 100, that is not being invested in the third month due to a rising market, in a safe instrument or keep it in a savings bank account to earn interest rather than spending it.
It must be borne in mind that the same money will be utilised by investors when equities fall. After all, to get the best out of this strategy one should have ample funds during a bear market.
Also, a word of caution. Money so invested should be put into a diversified mutual fund or a well-diversified index such as Nifty.
Other than these, if it's invested in a stock, sector fund or a sectoral index, the strategy of value averaging may lead to a disaster if the investor is not well-versed with the future of this narrow investment gamut.
nikhil.walavalkar@timesgroup.com
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