If a trader is buying additional shares of a depreciating asset that they previously bought at a higher price, it means they are averaging down.
By buying additional amounts of the same stock at a discount price, the buyer lowers the average price they paid for that stock in their portfolio, hence the name. For instance, if an investor purchases 1000 shares of a stock at the initial price, and buys another 1000 shares after the price has dropped, the average price for all 2000 shares drops.
This strategy is similar to the popular dollar-cost averaging (DAC) strategy, which involves investing in the same stock at similar intervals, regardless of whether the price of that stock has risen or dropped in the meantime.
Just like with any other strategy, there are advantages and disadvantages of averaging down, as well as periods when it is better to employ the strategy and when it should be avoided.
To give another example, if the price of shares appreciates after the investor has averaged down, it means that they would have successfully employed the strategy and made a profit. On the other hand, if the price continues to depreciate after averaging down, the investor would have raised the bet on a losing investment.
Go back to our full glossary.