What Does It Mean To Buy The Dip?
3 min read
A popular phrase among investors is "buying the dip." If you've just started to ease into the investment waters, it might be helpful to learn the basics of what it means to buy the dip.
Investors' primary goal when buying the dip is to purchase stocks (or any other assets) at their lowest price. Perhaps you purchase shares of a stock that has dropped in share price. Your hope is that the price drop is brief and temporary, and that eventually the stock's value will increase, adding to your investment gains.
Buying the dip: The best way to time the market
In a sense, we're all hoping for the same outcome for our investments. We want the assets we purchase to eventually be worth a lot more money than what we paid for them.
However, "timing the market" isn't as easy or predictable as you might like.
In the stock market, dips are also called pullbacks. They are part of the natural, common course of a stock's price when it's on an uptrend. (The uptrend is what it sounds like: an overall upward price movement even though the stock may briefly drop before rising again.)
If you do manage to buy the dip when it's actually on a natural pullback, your investment will grow in value.
Risk management in buying the dip
It's key to remember that no investment strategy is completely foolproof or risk-free. If you're buying the dip, you're selecting stocks based on a lower price at a particular point in time.
This purchase is based on the assumption that the chosen stock will rebound and the share price will rise. An investor might believe a stock will rise because it's been on a long-term uptrend and the drop is merely temporary, or it hasn't been trending upwards at all and it seems due for a spike.
The tricky part of buying the dip is that you can't be sure what will happen to a stock's value. It may be dropping due to natural market fluctuations and will likely recover. But it's possibly due to problems with the company or market, which is a red flag that the price might continue declining.
It's impossible to predict with certainty what a stock's price will do tomorrow or a month or year from now. Investors can make good returns on investments by buying the dips in a strategic manner, but you can't know for certain if an asset's price is at its lowest or not.
How buying the dip plays into averaging down stocks
A term related to buying the dip is "averaging down stocks". This is when you already own shares of a stock and decide to purchase more shares after its value has decreased.
The net result of this type of process is that you decrease your average purchase price of the stock. By doing so, you lower the share price a stock needs to reach in order to profit.
Averaging down stocks can be effective for someone with a long time horizon. Over many years, your gains on various stocks can improve.
Check out more guides on investing terminology and more from Raseed.
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