The Money Muse

You’ve probably heard people say things like, “buy low, sell high,” when talking about investing. While that sounds great in theory, timing the market can be incredibly tricky. That’s where dollar cost averaging comes in – a strategy that takes the guesswork out of investing by focusing on consistency over time.

In simple terms, dollar cost averaging means investing a fixed amount of money at regular intervals, regardless of what’s happening in the market. Whether prices are up or down, you’re investing the same amount. Over time, this approach helps to smooth out the highs and lows of the market, which can reduce your overall risk.

How does it work?

Let’s break it down with an example. Say you decide to invest $200 every month into an index fund. One month, the price per share is $20, so your $200 buys 10 shares. The next month, the price drops to $10 per share, so your $200 now buys 20 shares. A few months later, the price jumps up to $25 per share, meaning your $200 only buys 8 shares. By the end of the year, you’ll have accumulated shares at various prices without worrying about whether the market was up or down when you invested. This is a simple, but effective strategy for investing, and if you automate it –  even better!

The idea is that, over time, you’ll end up paying an average price per share – hence the term “dollar cost averaging.” It keeps you from dumping all your money into the market when prices are high and instead spreads your risk over time.

Why is dollar cost averaging helpful?

• It eliminates emotional decision-making. When the stock market is volatile, it’s easy to panic when prices drop or feel tempted to buy more when prices are high. Dollar cost averaging keeps you on track and prevents those emotionally driven decisions.
• It takes advantage of market dips. By consistently investing, you’ll naturally buy more shares when prices are lower. So, when the market eventually rebounds, those shares will have a higher value.
• It’s simple and low maintenance. You don’t need to be an expert in market trends or spend hours researching. You set a fixed amount to invest and stick to the plan.

What are the downsides?

While dollar cost averaging is a great long-term strategy, it’s not foolproof. If the market keeps going up, you might miss out on bigger gains you could have gotten by investing a lump sum early on. However, for most people, the consistency and lower risk of dollar cost averaging outweigh the potential downsides.

Is dollar cost averaging right for you?

If you’re looking for a simple, low-stress way to invest that can help you stay the course through market ups and downs, dollar cost averaging might be a great strategy for you. It’s perfect for people who want to invest regularly without having to worry about timing the market or making emotional decisions. It’s a strategy I’ve used for in my own personal finance journey from the beginning, and one I plan to continue using long-term.

In the end, the goal of investing is to build wealth over time, and dollar cost averaging is one of the best ways to help you do just that.