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Automatic Investing: Less Emotion, More Strategy

Automatic investing is a convenient way to stay invested. Find out how this systematic strategy can help take emotions out of investment decisions—every day, and especially in uncertain times.

09/20/2024

When things are uncertain around us—the markets, economy, global conflicts, policy proposals and even election outcomes—we often hear from clients who are tempted to change or pull back on their investment plans.

But those plans were put in place for a reason: to ensure you stay invested in your future, no matter what’s happening in the world. Setting up automatic investments is a convenient way to practice a systematic investment strategy. Financial consultants Kory Klossner and Kyle Ray discuss some of its benefits and where to start—including going back to some basic investing principles for your portfolio.

Start With a Solid Investment Plan

While news headlines can have a real effect on investor confidence, Kory and Kyle say to focus on what you can control. That starts with making sure your portfolio risk level matches your goals, time frame and tolerance for market ups and downs. Successful regular investing may be contingent on having a portfolio that aligns with you.

“Sometimes investors can be concerned about how much risk they’re taking, and it comes to the forefront in uncertain times,” says Kyle. “It could also be connected to where they are in the investor lifecycle. What was appropriate 20 to 30 years ago may not be appropriate for someone now.”

Kory agrees, “At the heart of making regular investments is to have the right portfolio. I tell clients that their portfolio should be one they love in the good years and one they can live with in the challenging years.”

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“It can seem like some investors either want no risk or are ‘pedal to the metal,’” says Kyle. People who are taking too much risk often know it, and it’s why they are anxiously watching market news every day.

Why Automatic Investing?

When it comes to your long-term plan, consistent investing may be better—emotionally and financially. Regular investing in your accounts can be an important part of your overall financial plan.

“Automatic investing can help investors play defense when markets move,” says Kory. It can also help you stay the course and avoid costly mistakes. “Reacting may be one of the biggest threats to an investor’s financial strategy over the long term.”

Kyle agrees, “The right plan means an investor has already settled on the appropriate amount of risk and diversification for them. Adding an automatic investment means you don’t have to worry about how much or when to invest; it’s already been decided by your choices.” Here are other ways automatic investing may help.

1. Helps Investors Avoid Market Timing

Timing the market is trying to predict the best time to invest based on what you think markets will do. This behavior can include adjusting your portfolio in anticipation of market news, moving in and out of cash equivalents, such as money markets, due to uncertainty and/or stopping investments during a market decline.

Kyle says, “The bad news about market timing is that you must get out and get in the markets at the right time. So, you must be right twice.” And it rarely works, if at all. The good news about automatic investing is that you stay invested and can potentially take advantage of market movements (read more about dollar-cost averaging below).

Am I a Market Timer?

How do you know if you’re a market timer? Some people may try to convince themselves they aren’t one. But if you’re guessing at the best time to invest at the right price, it’s market timing.

As much as people know that long-term investing should not be about market timing and chasing performance (or avoiding losses)—many people still do it. Kory says, “Seeking performance may be potentially rewarding in good years, but it can also create heartburn in challenging years.”

2. Takes the Emotion Out of Investing.

When you set up and stick with an automatic investment plan, you won’t be as tempted to buy and sell based on headlines. And investing consistently over time may help you have more success. How? If you miss even a few of the market’s best days, your account balance might be lower than had you stayed invested the entire time (even through the worst days).

Emotions can have a significant impact on your investment decisions. In fact, studies on behavioral finance have provided evidence on the role emotions have on money choices. A pre-commitment strategy like setting up automatic investments can help you stay on course.

“Investors may not want to admit that they sometimes make emotional investing decisions,” says Kyle. “An automatic investment gives you a true strategy to make the most of your investment plan.”

“Otherwise,” he says, “You may just have a purchase strategy and buy things that don’t fit just because they sound exciting or try to unload others because they experience a downturn. In my opinion, it’s better to use the automatic investing strategy to help avoid those kinds of investment decisions.”

Kory says that a lot of it goes back to hearing bad headlines and making rash decisions based on them. “The majority of investors don’t have a systematic approach to reviewing their portfolios, so it’s understandable they would be moved by bad news.” Not having to be hyper-aware of what the markets are doing is another benefit of automatic investing.

Whether you have an automatic investing plan or not, reviewing your portfolio periodically can also help ease emotions. “It might be more beneficial to view evaluating your portfolio more like a doctor’s visit rather than a trip to the ER,” Kory says.

3. It’s Easier to Stick To Your Plan.

Retirement and other long-term goals require large amounts of money and a disciplined plan to get there. If you’ve ever calculated how much you might need for retirement or other long-term goals, you know that it’s best to start early and invest regularly.

“Why do 401(k)s and other workplace plans offer automatic deferrals from each paycheck to save for retirement?” asks Kyle. “Because it works. Automatic investing doesn’t guarantee that you’ll reach your ideal retirement amount, but it does provide a hassle-free way to save and stay committed to your future.” And it’s not selfish to make your future a priority.

Kory says people will be more diligent when they are caring for someone else, but it’s different when it’s about yourself. It’s the same when they are investing for their own futures.

“As individuals, we get relaxed in how we care for ourselves. It might help to think about your future self as someone you are responsible for. Automatic investing can be one way to care for yourself and keep your future a priority.”

4. Benefit From Dollar-Cost Averaging.

Instead of chasing (and hoping for) the best purchase price, consistent investing allows you to “collect” and average your purchase prices over time. This strategy, called dollar-cost averaging, helps you manage varying market conditions during your lifetime.

Suppose you invest $100 a month in a mutual fund and purchase shares at a variety of prices. At the end of the six months, you own 34 shares that cost $600 and your average cost per share was $17.65 per share ($600 divided by 34 shares).

But if you had invested the full $600 in the first month, you would have bought only 24 shares at $25 each. With dollar-cost averaging, you bought 10 more shares and reduced your cost per share by more than $7.

Dollar Cost Averaging Example Table.

Of course, the opposite is true had you invested $600 at $12.50 per share. But over years of investing, it’s impossible to have perfect timing for every purchase.

“The good thing about dollar-cost averaging is it’s consistent investing. That consistency helps even out the high and low share prices while helping you stay invested for your future,” says Kory.

5. Build Investments Gradually Over Time.

Setting up automatic investments (monthly, or per pay period, for example) may help you build assets over time. Here’s why.

The more time you have for your money to grow and compound, the more likely you may be to reach your long-term goals. Compounding—earning money on your original investment and on any earnings for that investment—can have a powerful effect over time. And bumping up your contributions periodically (from annual pay raises, for example) may help build your assets even more.

Source: Future Value Calculator, American Century Investments, September 2024. These are hypothetical calculations contain assumptions that are intended for illustrative purposes only and ae not representative of the performance of any security. There is no assurance similar results can be achieved, and this information should not be relied upon as a specific recommendation to buy or sell securities. They assume a $2,500 initial investment and monthly investments over 40 years of $50, $100 and $200 with a 6% return rate. Assumes reinvestment of all gains, dividends and interest, and does not include fees, expenses or taxes. If all taxes, fees and expenses were reflected, the reported value would be lower.

Kyle says, “Sometimes people don’t connect the dots between investing in a retirement plan at work or for college and that they are already automatically investing. I’ve had this very conversation with clients who saw a college savings plan for their kids grow significantly by investing regularly over several years. But when I mention investing regularly in an IRA, they say they don’t trust the markets enough to do that.”

Questions About Automatic Investing

As much as we believe automatic investing is a great way to practice the smart investing principle of regular investing, we know some investors still have questions.

What If I Don’t Have Enough Money?

You may have the money and not realize it. Sometimes the hesitation is a budgeting issue. Automatic investing can help you make a good start with small amounts. “Don’t discount making smaller, regular investments,” says Kory. “Smaller amounts can potentially add up over time.”

As you create and maintain a budget, you may find more money to invest and a good way to put it to work for you is with an automatic investment.

Automatic or Lump Sum?

There are times when investing a single, larger amount makes sense: inheritance, gift, tax refund, proceeds from a sale, etc. Investing it all at once can ensure you use the money for your future rather than spending it today.

But occasional lump-sum investing assumes you have large amounts to invest, and this strategy’s success may hinge on timing the market just right to get a good price. Smaller, regular amounts take away the guesswork of when and how much to invest.

Kyle says if you do have a lump sum to invest, consider the alternative to investing it right now. “You could sit around and wait for the ‘best’ time to invest (also known as market timing). Or, consider going ahead and investing it--even if it seems like the worst time. Being invested could potentially help you take advantage of a market recovery and potential growth.

Kory agrees. “Automatic investing may be less applicable to windfalls but more practical for recurring income that can be invested every month or whatever interval works for you.” He also says, “Sidelining the money or investing in a cash equivalent and waiting could cause you to miss out on compounding time.”

Should I Stop When Markets Drop?

Emotions can go both ways with investing. Often, investors want to purchase when an investment is on the rise and find it more challenging to keep investing when markets fall.

“Wanting to make a change may be the gut reaction when markets drop,” says Kyle. “But remember if you’re dollar-cost averaging, you’re not putting in your whole life savings on the line.” If anything, he says, market downturns may be a good time to buy more and increase your automatic investment.

Something else to consider is if the price is lower because something fundamentally changed to impact the long-term growth of the investment. If not, a key to automatic investing is to be disciplined and take advantage of times the market might be offering you a deal.

Automatic Investing: Can It Benefit You?

No matter your age, investing knowledge or financial status, automatic investing may help you build your investments over time. And it can help keep you from straying from your plan if you’re tempted to time the markets.

Authors
Kory Klossner, Financial Consultant
Kory Klossner

Financial Consultant

Financial Consultant Kyle Ray, CFP®
Kyle Ray, CFP®

Financial Consultant

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The opinions expressed are those of American Century Investments (or the portfolio manager) and are no guarantee of the future performance of any American Century Investments' portfolio. This material has been prepared for educational purposes only. It is not intended to provide, and should not be relied upon for, investment, accounting, legal or tax advice.

Dollar cost averaging does not ensure a profit or protect against a loss in declining markets. This investment strategy involves continuous investment in securities, regardless of fluctuating price levels. An investor should consider his or her financial ability to continue purchases in periods of low or fluctuating price levels.

Investment return and principal value of security investments will fluctuate. The value at the time of redemption may be more or less than the original cost. Past performance is no guarantee of future results.

You could lose money by investing in a mutual fund, even if through your employer's plan or an IRA. An investment in a mutual fund is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency.

Diversification does not assure a profit nor does it protect against loss of principal.