I repeatedly see people on this sub saying that one should keep buying in order to average down when they've experienced losses. Sometimes this is good advice, but it all depends on the merits of the stock itself. A priori, however, it doesn't do what many people think it does.
Averaging down increases your chances of breaking even by lowering the price at which you break even. That's simple enough, and that's why people advise doing it.
However, it also increases the stakes. It ups the ante. If you don't end up breaking even, you are now on the hook for bigger losses because you've pushed more chips to the table.
This is a variation of a Martingale strategy, which offers zero risk-adjusted returns. In a Martingale, you simply double down on your bet until you win. If you are betting that a coin flip will come up tails, you double your bet with each heads. The reasoning for this is that the odds of continued losses are slim. After all, the odds that a coin flip comes up heads six times in a row are just 1.5%. By committing to this strategy in advance, you have a 98.5% chance of winning if you're willing to go six flips deep.
However, your potential losses scale in accordance with your increased odds of winning. On that sixth coin flip, you are now wagering a very large amount in exchange for a small potential gain (presumably a 32:1, or 2^5, disparity). There's no risk-adjusted return here.
In a nutshell, averaging down does exactly this. If it's a great stock and a great buy, sure. But don't average down because you think it's some free math hack. You aren't getting risk-adjusted returns simply by doing this. You're just increasing your odds of winning while simeultaneously increasing your losses if you lose.
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