What is "Dollar Cost Averaging" and does it work?

This is probably the most used term in investing as it is based on a simple premise. It is also the easiest to follow as we will see below.

Every person who invests regularly is doing "Dollar Cost Averaging", whether they realize it or not. This is a great method as it builds consistency as well as persistence over time in achieving future wealth.

This is also the least risky way to invest. Dollar cost averaging causes you to actually be rewarded when the market goes up OR down, so there is no worry about market dips or fluctuations.

The Method Explained: Dollar Cost Averaging

Here’s how it works. The method involves buying into an investment at regular intervals with equal investment amounts each time. So let’s take the example of investing $100 per month, every month into mutual fund named “Best Fund” for illustration.

For your first months’ investment, a share of “Best Fund” is selling for $50 each. So, your $100 investment buys you 2 shares of the mutual fund. Great, your now invested and hopefully it grows in value over time (and it will, over the long term, as the stock market history has shown).

In the second month, you again invest $100 into the mutual fund “Best Fund”. However, the value of a share has plummeted to $25 per share. (So your investment from the first month is now worth half its value, but don’t worry, it will rebound over the long term). But, your $100 in month two now buys you 4 shares.

So, in total, after two months, you own 6 shares valued at $25 each for a total value of $150. Yes, it is true that you invested $200 total, so you have a temporary “paper loss” of $50 (Still no need to worry, you are invested for the long term, and it will eventually grow again).

Now comes the third month and the shares have gone up back to $50 a share. Your $100 investment buys you another 2 shares. Now you have a total of $300 invested in “Best Fund” and you own 8 shares (2 shares from month one + 4 shares from month two + 2 shares from month three).

At the time of purchase in the third month, your portfolio of “Best Fund” is now worth $400!! (8 x $50 per share). Congratulations, you made $100 more than the money you invested! That’s a 33% return!! (You made $100 on an investment of $300).

This is called “dollar cost averaging”, it allows you to purchase more shares of a fund if the value dips when it’s your regular time to buy (say you choose the 15th of each month). Then, when the shares go up again, you have more shares that are all rising together!!

How Dollar Cost Averaging Lowers Your Risk

So, “dollar cost averaging” allows you to de-risk your exposure while making more money (called returns) in the long run. This is because your regular investment was able to take advantage of the dips in the market and buy more shares in “Best Fund”. Then all those shares started rising together as the market trended upwards again. (Eventually, for long term investments, history has always shown that market dips will trend back up, if given time.

The lesson here is that dollar cost averaging is less risky, less worry, and is proven to work to your benefit in the long term (10+ years), which is needed for your investments to build wealth.

The Key: Automate Your Investing

You can set up your investments at regular intervals with your bank or investment company (or with online investment apps). A good suggestion is to start with an amount that you are comfortable with, either $25, $50 or even $100 per month and set it up to automatically invest (it will take it from your bank account) on the same day each month (usually the day after you get a paycheck, so for most people it is the 1st, 15th, or 30th of the month). As you earn more money in future years, you can readjust the monthly investment. Remember, treat this investment as a monthly expense and make it part of your budget!!Every reliable product review should start with an introductory paragraph.

Bottom Line on Dollar Cost Averaging

This method has all the benefits of investing with very little risk. The only risk is if you need the invested money during a severe downturn in the markets. But, if you can remain disciplined, only contribute money that you will not need to access while it grows over many years, you will be pleasantly surprised as to the amount of wealth growth over time.

Dollar Cost Averaging is:

1. Simple to understand

2. Easy to Apply

3. Provides Flexibility in contributions

4. Virtually guaranteed to grow substantially over the long term

5. Can be automated with your financial institution

6. Can be monitored online and with an app

7. Encourages you to invest without any noticeable lifestyle changes

8. Gets you into the stock market with almost no risk

9. Secures your financial future

10. Anyone can start, regardless of income (no barrier to entry

So, start your dollar cost averaging today, for yourself with small monthly contributions (perhaps as low as $50 per month), have your kids contribute to theirs with as little as $5 a month, and secure your entire families' future wealth!