In early 2020, the market crash saw the FTSE 100 drop by 35% within a matter of weeks. Fears surrounding the impact of Covid-19 on businesses caused a meltdown in share prices of a type that hadn’t been seen since the last financial crisis.
The market has since begun to recover, especially as vaccines become more readily available. However, the FTSE 100 is still below its pre-Covid levels by 12%. This presents a rare opportunity to buy shares in high-quality businesses at exceptionally low prices. Given time, these shares could rise far beyond their pre-Covid prices in 2021.
Don’t waste a stock market crash
Going through a market crash for the first time is a pretty gut-wrenching experience. After all, no one likes seeing their portfolio plummet every day. Yet it’s the perfect time to buy shares, not sell them.
For example, if I’d bought a FTSE 100 index tracker in late 2007, by mid-2008, I’d be horrified to see a loss of almost 40%. Selling at that point would secure the loss, and would be a grave mistake. Instead, if I increased my tracker position, the average price paid for the shares would have dropped by almost half – this is called pound cost averaging.
Here’s what happens a decade later just before the Covid crash. If I’d held on to my shares but didn’t buy any, the investment return is a measly 8%. By comparison, if I’d used the market crash as an opportunity to buy more, the return on investment is closer to 50%!
This example can be applied to every market crash since the stock exchange first opened in 1611. While the fear of a stock market crash is common among investors, it’s not actually a common occurrence. Over the past 20 years, there have only been three, including the most recent one. So don’t waste the opportunity they generate.
The power of pound cost averaging
Buying at the lowest point during a market crash will generate the highest returns. However, knowing when the lowest point has been reached is almost impossible and attempts to do so typically result in missing it.
A better approach is pound cost averaging. This is a simple concept where instead of buying shares all at once, you space out your trades over a period of time. That way, if you purchase shares in a high-quality business that continues to fall, you still have some capital to buy more shares at an even lower price.
2021: the opportunity of a lifetime
The UK market has already begun to recover, but the bounceback is far from finished. As such, I believe there remain many buying opportunities in 2021 — and such opportunities rarely come along. Investors who can identify these opportunities will likely enjoy market-beating returns that will boost their wealth considerably.
Buying shares in 2021 may seem risky, given the current market uncertainty. However, historically the market always recovers over the long term. The last market crash was almost 12 years ago. And while there will almost definitely be another in the future, we could be waiting another 12 years before it happens.
