Whether we’re shopping for jeans or shares, we have an innate desire to bag a bargain
It’s one of the brokers’ favourite maxims, because it makes so much sense. “Buy on the dips,” they say. And think about it: would you prefer to buy a pair of jeans for $100, or would you rather get them on sale for $80 instead? Exactly. So, buy on the dips, right? It seems so simple. So seductive. So downright obvious. And, unfortunately, it’s awful advice when applied to shares.
Let me explain. Yes, the idea of buying things on sale makes perfect sense. And, yes, I’ve used the “on sale” example to stop people freaking out when share prices fall. After all, when the market goes through its periodic ups and downs, there’s no point selling just because prices have fallen, and it can even be a good time to buy more. If you liked the jeans at $100, you’ll love them at $80.
But didn’t I just say … ?
I did. And here’s where (and why) it’s different: The idea of “buy on the dips” or “buy when the market falls” isn’t bad advice if your intent is to encourage people to be brave after prices have fallen. But it’s terrible advice if applied in advance, and if it encourages you to put off an otherwise sensible purchase.
Let’s go back to our jeans. And let’s say the price today is $50 a pair. Your well-meaning fashion broker tells you that, yes, they’re nice jeans. And, yes, they look good on you. But they’re a little expensive. “Just wait,” he says, “and buy on the dips.” You take the advice and, walking past the shop a week later, you notice the price is now $60 a pair. No one wants to chase the price up, so you wait for the price to fall. Over the next couple of weeks the price hits $75, then $100. Finally … finally, it falls. Three months after you first saw the jeans, they’re on sale for $90. “Ah, a pullback,” your fashion adviser exclaims triumphantly. “I knew that if you waited you’d get a chance to buy on the dips!”
For something that seems so obvious, and is so firmly rooted in our psyche, “buy on the dips” is probably the most inane advice you could ever receive. It preys on our innate desire to get a bargain, and to not pay too much. But it ignores completely any objective assessment of value.
If a company’s shares are horribly overvalued at $10 each, there’s no point buying at $9.50 on the assumption that they must, by definition, be a bargain now that there’s been a “pullback” in the price. And if the shares are cheap at $5, there’s unlikely to be any harm in buying at $5.50 or $6.
Of course, if we knew where the shares would be in one, three or five years, the decisions would be easy – we’d just buy the ones that go up. Unfortunately, investing isn’t that easy.