Playing the Averages
Dollar-cost averaging is a systematic approach to long-term investing. This is the practice of investing the same amount of money in the same investment at regular intervals (for example, once a month), regardless of market conditions. Since the amount you invest is always the same, you automatically buy more shares when the price is low, and fewer when the price is high. Dollar-cost averaging can also be an effective strategy with funds or stocks that can have sharp ups and downs, because it gives you more opportunities to purchase shares less expensively.
A Simple Example of Dollar-Cost Averaging
You have $600 that you want to invest in an equity mutual fund. Should you invest it all at once, or spread your purchases out over increments of $100 for six months?
Here’s one scenario that shows the potential benefits of dollar-cost averaging.
Month Investment Share price Shares bought
1 $100 $10 10
2 $100 $8 12.5
3 $100 $5 20
4 $100 $10 10
5 $100 $16 6.25
6 $100 $10 10
If you invested your $600 in the first month, you would have purchased 60 shares at $10 per share.
If you used dollar-cost averaging over six months, you would own a total of 68.75 shares, and the average price you would have paid per share would be $8.72.
Just Say No…to Market Timing
While “buy low, sell high” seems like good advice, it’s incredibly difficult, if not impossible, to predict the market’s peaks and troughs with accuracy and consistency—even for the most experienced investors. That’s why experts advise putting a fixed amount of money into a stock or bond fund on a regular schedule rather than trying to “time the market.”
It’s easy to use dollar-cost averaging, and for you along with long-term investors, dollar-cost averaging is a smart way to take the emotion out of investing and to eliminate the difficulty and uncertainty of trying to time the market.
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