average down
What does the average down mean?
Downward averaging is an investment strategy that involves a shareholder buying additional shares of a previously initiated investment after the price has fallen. The result of this second purchase is a decrease in the average price at which the investor bought the stock. It may be out of step with the average.
For example, an investor who bought 100 shares of a share at Rs50 per share could buy another 100 shares if the share price reached Rs 40 per share, thus raising the average price (or cost base ) to Rs 45 per share. Some financial advisers encourage investors to reduce the average of the stocks or funds they intend to buy and hold or as part of an average dollar cost (DCA) strategy.
MAIN TAKE-AWAY
Falling Averaging is an investment strategy of adding an existing position when its price drops.
This technique can be useful when carefully applied in conjunction with other elements of a sound investment
Adding more to a position, however, increases the overall risk exposure and inexperienced investors may not be able to distinguish between a value and a warning sign when stock prices
Understanding the Mid-Cut Strategy
The main idea behind the Mid-Cut Strategy is that when prices go up they don’t need to go up that much for the investor to start making a profit on their position.
Consider that if an investor has bought 100 shares at Rs60 per share and the share price has fallen to Rs 40 per share, the investor must wait for the share to rise from a decline of 33% of the price. However, from the new price of Rs 40, that’s not a 33% increase. The action must now increase by 50 before the position turns a profit (40 to 60).
The decreasing average makes it possible to approach this mathematical reality. If the investor buys another 100 shares at Rs40 per share, the price only needs to rise to Rs 50 (only 25% more) before the position is profitable.
If the stock returns to its original price and subsequently goes up, the investor will start to notice a 16% profit once the stock hits Rs 60.
Although the falling average offers some aspects of a strategy, it is incomplete. Reducing the average is more of a mindset than a solid investment strategy. Lowering the average allows an investor to deal with various cognitive or emotional biases. This is more of a security blanket than a rational policy.
Special Considerations
The problem with the bearish average is that the average investor has very little ability to distinguish between a temporary drop in prices and a warning sign that prices are about to drop much lower.
While there may be unrecognized intrinsic value, purchasing additional stocks just to lower an average cost of ownership may not be a good reason to increase the percentage of an investor’s portfolio exposed to the price. of the action of that action.
Advocates from a technical point of view hear down as a profitable approach to wealth accumulation; opponents see it as a recipe for disaster.
This strategy is often preferred by investors who have a long-term investment horizon and a value-oriented investment approach.
Investors who follow carefully constructed models that they trust may find that adding exposure to an undervalued stock, using prudent risk management techniques, can be an attractive opportunity over time.
Many professional investors who follow value-oriented strategies, including Warren Buffett, have successfully used the bearish average as part of a larger strategy that is carefully executed over time.
