Riding the ups and downs of the financial markets

October 7th 2009

When you retire, the final amount of your savings will depend on two things:

• the amount of shares (or units) you have in your pension plan
• the value of each unit on the day you retire

The ideal scenario is to have as many units as possible and for the price of them to be high.  But none of us can confidently predict how the markets will perform in the future. While your existing savings can look healthy when share prices are high, any new money you invest buys fewer shares (as they cost more). Similarly, existing savings don’t look as strong when share prices are low, but new money will buy more shares (as they’re cheaper). The chart below shows how this works.

Date you invest	Amount invested (£)	Share/Unit price (£)	Shares/Units bought regularly	Shares/Units bought only when prices are high
1 January	250	10.00	25.00	25.00
1 February	250	9.80	25.51	25.51
1 March	250	9.60	26.04	26.04
1 April	250	9.20	27.17
1 May	250	9.30	26.88
1 June	250	9.10	27.47
1 July	250	9.00	27.78
1 August	250	9.60	26.04	26.04
1 September	250	9.90	25.25	25.25
1 October	250	9.70	25.77	25.77
1 November	250	10.10	24.75	24.75
1 December	250	10.00	25.00	25.00
Totals	3,000		311.33	203.36

A rational approach
If you only buy units when they’re high, but stop buying them when they’re low, you probably won’t get the highest possible number of units while you’re investing. That’s why it’s important think rationally when making investment decisions.

By investing regularly, you can help to avoid the extremes associated with the ups and downs of the stock market and remove the worry of when to invest. This type of investment strategy is known as pound cost averaging. For example, let’s assume that you’re investing £250 each month into your pension. The table above shows the effect on your savings if you only invest when unit prices are high, and compares this with the pound cost averaging strategy of regular investment.The shaded areas represent months where the prices have dropped and you decide not to buy shares.

More units, bigger savings
As you can see, if you’d continued to save each month, you’d have increased the number of units you have. On 1 December, the value of your units would have been £3,113.30, compared with £2,033.60 if you only bought when the unit prices were stable or high. Even if you then add the £1,000 you didn’t contribute, it still means you only have £3,033.60 in your savings – a difference of £79.70.

This is a very basic example to highlight the effect of pound cost averaging. In situations like the current economic climate, unit prices have gone up and down in value dramatically, but past experience has shown they eventually recover.

If you need advice on how to navigate through this financial downturn, you should contact your financial adviser. Please note that you may need to pay a fee for this advice.

Pound cost averaging is particularly suited to volatile markets, but please remember that an investment’s past performance is not a guide to its future performance and the value of investments can go down as well as up.
 

For further information on investments please, call us on 0113 287 8200 or e-mail advice@prosperis.co.uk