Formula Investing
Formula investing is a method of investing that rigidly follows a prescribed theory or formula to determine investment policy. Formula investing is appealing to market participants who find active investing stressful or overwhelming; formula investing is structured and consistent. Formula investing may simplify the investment process for inexperienced investors or those who lack the time to actively manage their accounts; however, the risk is that a formula investor can't react fast enough to changes in the market or the economy. Formula investing takes most of the discretionary decision-making out of the investment process, which can reduce stress for investors and help them automate their strategies; investors simply follow the rules or formula and invest accordingly. Formula investing is a method of investing that rigidly follows a prescribed theory or formula to determine investment policy.
What Is Formula Investing?
Formula investing is a method of investing that rigidly follows a prescribed theory or formula to determine investment policy. Formula investing can be related to how an investor handles asset allocation, invests in funds or securities, or decides when and how much money to invest.
Understanding Formula Investing
Formula investing takes most of the discretionary decision-making out of the investment process, which can reduce stress for investors and help them automate their strategies; investors simply follow the rules or formula and invest accordingly. A drawback of using formula investing is the inability to adapt to changing market conditions. For instance, during a period of extreme volatility, an investor may achieve better results by making a discretionary adjustment to their investment strategy.
An investor must make sure that the formula fits with his or her risk tolerance, time horizon and liquidity requirements for it to be effective. Dollar-cost averaging, dividend reinvesting and ladders are examples of simple formula investing strategies.
Formula investing may simplify the investment process for inexperienced investors or those who lack the time to actively manage their accounts; however, the risk is that a formula investor can't react fast enough to changes in the market or the economy.
Formula Investing Strategies
Related terms:
Asset Allocation
Asset allocation is the process of deciding where to put money to work in the market. read more
Automatic Investment Plan (AIP)
An automatic investment plan (AIP) is an investment program that allows investors to contribute funds to an investment account in regular intervals. read more
Compounding
Compounding is the process in which an asset's earnings, from either capital gains or interest, are reinvested to generate additional earnings. read more
Constant Ratio Plan
A constant ratio plan is defined as a strategic asset allocation strategy, which keeps the aggressive and conservative portions of a portfolio set at a fixed ratio. read more
Dividend Yield
The dividend yield is a financial ratio that shows how much a company pays out in dividends each year relative to its stock price. read more
Magic Formula Investing
Magic formula investing is a disciplined investing strategy that teaches people a relatively simple and easy-to-understand method for value investing. read more
Mechanical Investing
Mechanical investing is any one of a number of ways of buying and selling stocks according to pre-set criteria or triggers. read more
Risk Tolerance
Risk tolerance is the degree of variability in investment returns that an individual is willing to stand. It is an important component in investing. read more
Systematic Investment Plan (SIP)
A systematic investment plan involves putting a consistent sum of money into an investment on a regular basis to take advantage of dollar-cost averaging. read more
Volatility : Calculation & Market Examples
Volatility measures how much the price of a security, derivative, or index fluctuates. read more