Dollar-cost averaging is a strategy of making regular incremental investments over a period of time instead of a one-off lump sum investment. This involves a continuous investment of the same amount of money into the same fund, usually at a fixed monthly, quarterly, or annually rate - regardless of the investment’s ever-changing price levels.
Example
Every month, Stacey decides to invest $100 in the ‘x’ share fund.
Stacey’s average purchase price is $10.54 (600/57).
The average price of the fund for six months was $13.75.
Benefits
- By investing continuously into the market, may limit capital loss. This is because in an event of a serious market downturn, you will not expose your entire capital.
- As you can see in the above example, by investing the same amount at a frequent fixed rate, you buy more units when the market is down and fewer when the market is up - this is what successful investors do.
- While an investor who dollar-cost averages may suffer a loss in a declining market, the loss is usually less severe than that of a lump-sum investor.
- As can be seen above, by investing the same amount regularly, you automatically buy more units when the market is down and fewer when the market is up. This is exactly what successful investors do.
- With a fixed process, this strategy takes the emotions away from investing, meaning:
- You will feel less inclined to time the market - to “buy at the top” and “sell at the bottom”.
- This strategy follows a concrete plan, which may be a great introduction to investing.
- You will feel less inclined to time the market - to “buy at the top” and “sell at the bottom”.
Consequences
- This strategy is less successful during times where the markets are increasing as you may forgo capital gains while you sit on excess cash. While the dollar-cost averaging strategy can reduce risk, it can also result in lower returns when markets are rising.
- It may be difficult to be disciplined and fully follow through investing regularly, however, automation can help with this so you do not have to think about it.
If you would like more information regarding the dollar-cost averaging strategy, please contact Wagtail Wealth today.
IMPORTANT NOTE: This information is general advice only and does not take into account your personal circumstances, goals and objectives. Therefore, you should consider its appropriateness for your circumstances before acting on this information.