The equity markets right now are extremely volatile. The VIX has more than doubled just in the past few months, and this presents some opportunity if you’re willing to buy during the dips. Before I go further, let me be clear that I’m only considering buying broad market indexes when buying dips – not individual stocks or niche ETFs or mutual funds. I feel buying into dips is only advisable when considering a broad basket of equities. So, to simplify the discussion below, assume that we’re talking about the S&P500 only (although this should apply to any index funds, ETFs and mutual funds that focus on a large basket of equities) and that we’re discussing using market dips to augment long-term holdings only.

The 3-part question I’ve been grappling with is: (1) what constitutes an actionable dip, (2) when to exploit this dip, and (3) how much to invest in the dip. Volatility helps create really nice dip opportunities, but it requires some speed, available funds, and some previously determined strategy to effectively capitalize on volatility.

(1) What constitutes an actionable dip? Before you can determine this, you’ve got to pick a time frame. A side question that’s important when formulating the dip investment strategy is what your time-frame to investment ratio is for determining the proper investment amount per dip: 2% down on a single day, 4% down on a single week, 8% down on a single month might all be valid “dip values” that would trigger an investment, but how much is appropriate to invest? An easy suggestion would be that the longer the time frame you’re considering, the more money I’d consider putting in, based on two main factors: frequency that the dip will occur (and thus eat into your cash reserves) and the longer it takes a dip to develop, the stronger a trigger it becomes since time solidifies a movement’s “authenticity” vs. it being a mere blip-dip.

For instance, if you had $10,000 sitting on the sidelines for buying into dips at the end of the day, do you consider buying $1,000 when there’s a 2% single-day-dip, $2,000 when there’s a 4% drop in a week, and $4,000 when there’s an 8% drop in a month? Should more factors go into the equation to determine how much to invest your sideline money, and should you also have pre-determined rule-breaking “if this happens I’d be stupid not to invest $_____” strategies? It’s important to set the time frame before executing a strategy, otherwise you’ll run the risk of depleting your money on the sidelines chasing after individual dips that match your various time frames. Would you invest $3,000 ($1,000 + $2,000) if the market had a 2% down day that pushed it into being down 4% for the week as well? Not an ideal way to stretch your dollar and buy into the multiple market dips over time, but if the market had a 5% down day and you had determined that your time frame would be on a month basis, wouldn’t you be setting yourself up to miss the dip opportunity since the market will likely bounce from an over-reactive dip like this 5% drawdown?

There are multiple other factors to consider beyond time frame for when a dip triggers investment, such as market breadth (what percentage of stocks are contributing to the dip?), news factors that can trigger panic selling (although it can be argued that time frame is of the essence with panic selling, since the effect is often short-lived), and bear/bull sentiment and indicators tipping from a bull to bearish conditions.

I’m running out of steam on this post so I’ll go ahead and click publish, but I plan on revisiting this question in more depth as the concept of buying into the dips is quite topical in a volatile market.