Dollar Cost Averaging: What Is It And When To Use It

By January 31, 2020 No Comments
Dollar Cost Averaging What Is It And When To Use It - MyFi Loans New Zealand

Dollar cost averaging, a.k.a. DCA, is an investment strategy by dividing the total amount to be invested across periodic purchases of a target asset. This effort helps to reduce the impact of volatility on the overall purchase.

Over a long period, dollar cost averaging is what an investor used to build savings and wealth.

Getting a good price means when prices are high you will end up with fewer shares, and when prices are low you will end up with more. Instead of catching the market at a specific high or low point, this technique aims to average out the amount spent on shares over time.

DCA can be used in the following ways:

Regular savings

You can invest your savings on a regular basis (i.e. monthly). Drip-feeding your savings can allow you to use and take advantage of DCA.

Rather than save up until you have larger amounts to invest, you can make regular purchases of small amounts anytime and start getting some runs on the board.

As all investment markets are volatile, it’s not advisable to time or second-guess the market in order to invest. Even the experts find it difficult to judge market timing as opinions snowball about the stock market or the direction of interest rates.

Lump-sum investments

You can use dollar cost averaging in the examples below and protect the value of your investments.

Example 1: It’s risky if you have a lump-sum investment to make because a sudden fall in the market could easily wipe out a substantial portion of that investment.

You could DCA your investment into the market over a period of several years instead of investing the lump sum immediately — protecting your initial investment.

Example 2: You run the risk if you’ve been saving for years for retirement because a sudden fall in the market would reduce the value of your retirement investments.

You could DCA your retirement capital out of the market. Gradually using and reducing your investment capital over the length of your retirement, you don’t have to worry about the level of the market when you retire.

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