Dollar-cost averaging

Before you rely on it

What to check

Set the schedule and the amount in advance, then leave them alone.

The common error

Where people go wrong with dollar-cost averaging

Pausing the contributions when markets fall. Those are the purchases doing the most work, and skipping them converts the strategy into ordinary market timing with extra steps.

Worked through

Dollar-cost averaging in plain numbers

You invest $500 a month over four months. The fund's price is $50, $40, $25 and $50 in those months. You buy 10, 12.5, 20 and 10 shares, 52.5 in all, for $2,000. Your average cost is $2,000 ÷ 52.5, about $38.10 per share, lower than the simple average price of $41.25, because the fixed dollar amount buys more shares when the price is low. At the end the shares are worth 52.5 × $50, or $2,625, a gain of $625; a lump sum at the start would have bought 40 shares and ended at $2,000. Timing luck decides which method wins.

Easily confused

Dollar-cost averaging and its neighbours

Dollar-cost averaging is not the same as market timing, and it is not automatically better than investing a lump sum. Market timing tries to buy low and sell high by prediction. Dollar-cost averaging removes prediction by investing on a schedule. If you already hold a lump sum, historical data show that investing it all at once has often done better than spreading it out, because markets rise more often than they fall, though the ride is bumpier. Dollar-cost averaging suits people who invest from income each month, where it is the only option.

In real decisions

Where dollar-cost averaging turns up

Anyone contributing to a retirement plan from each paycheck is already doing it; it also helps people who fear investing a windfall at a peak, because it spreads the regret. Automated investing plans and employer plans use it by design; it builds a habit, keeps emotions out of the process and works with small amounts. Investors tracking its results compare their average cost with market prices, though the comparison depends on the period.

Know the edges

Where dollar-cost averaging stops being reliable

It does not protect against loss in a falling market. It does not guarantee a profit. Frequent purchases can add fees if the broker charges per trade. Holding cash on the sidelines while waiting to invest has an opportunity cost, and the strategy works best for assets you are prepared to hold for years; it is a way to invest steadily, not a way to beat the market.

Quick answers

What people ask about dollar-cost averaging

Is it better than investing a lump sum? Historically, investing a lump sum immediately has often done better, because markets rise more often than fall. Dollar-cost averaging reduces regret and the chance of a badly timed single purchase. If you invest from each paycheck, you are doing it already.

How long should I spread purchases? Some people use six to twelve months for a windfall. A longer period keeps more money out of the market. Pick a schedule you will stick to.

Do fees affect it? Yes, if each purchase carries a commission or minimum. Many brokers now charge none, but check for fund purchase fees.