Scott Phillips

Whether we’re shop­ping for jeans or shares, we have an in­nate de­sire to bag a bar­gain

Money Magazine Australia - - CONTENTS - Scott Phillips is The Mot­ley Fool’s gen­eral man­ager. You can reach him on Twit­ter@TMFS­cottP and via email Scot­tTheFool@gmail.com. This ar­ti­cle con­tains gen­eral in­vest­ment advice only (un­der AFSL 400691).

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.

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