The highs and lows of the stock market can be quite overwhelming and stress-inducing for some investors. They may then choose to stick with dollar-cost averaging as their go-to investment strategy.
What is it?
Also commonly abbreviated as DCA, dollar-cost averaging is an investment strategy where an investor divides a fixed amount of money into regular intervals and uses it to purchase assets or securities, such as stocks, bonds or mutual funds.
Why do people love it?
Compared to lump sum investing, which requires a big amount of capital to be paid upfront, spreading out a fixed amount over a fixed duration can help reduce the impact of market volatility on an investment portfolio.
Here’s how DCA can work in a volatile market:
Assuming you have $10,000 to invest in the stock market, and you decide to use DCA to invest it over the course of ten months. This means you would invest $1,000 every month, regardless of the market conditions.
Here’s an example: You decide to invest $10,000 in a mutual fund over the course of ten months. Here’s a snapshot of how your investment could look like, with the assumption that the mutual fund’s price changes every month:
Month 1: $1,000 buys 100 shares at $10 per share
Month 2: $1,000 buys 91 shares at $11 per share
Month 3: $1,000 buys 83 shares at $12 per share
Month 4: $1,000 buys 74 shares at $14 per share
Month 5: $1,000 buys 56 shares at $18 per share
Month 6: $1,000 buys 50 shares at $20 per share
Month 7: $1,000 buys 43 shares at $23 per share
Month 8: $1,000 buys 35 shares at $28 per share
Month 9: $1,000 buys 30 shares at $33 per share
Month 10: $1,000 buys 25 shares at $40 per share
At the end of this ten-month period, you would own a total of 587 shares of the mutual fund, with an average of $17.03 per share – which is less than half of the highest price in Month 10. By using DCA, you have reduced your exposure to market volatility and minimised the impact of market swings on your investment returns.
While it can reap you benefits in the long run, it is also important to note that DCA does not guarantee profits or protect against losses. It is simply a helpful strategy to help reduce the risk of investing amidst volatility. To ensure your portfolio is optimised, I would be happy to speak with you.
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