Dollar Cost Averaging (DCA) is a strategy that helps manage the risk associated with investing. Unlike trying to “time the market,” where you predict the best moment to invest, DCA involves consistently investing a certain amount of money at regular intervals. Here’s how it works:
- Regular Contributions: With DCA, you invest a fixed amount (say, $100) at set intervals (monthly, quarterly, etc.). This approach reduces the impact of market volatility because you’re not trying to predict the perfect entry point.
- Buying More When Prices Are Low: When prices drop, you automatically buy more shares. For example, if a share price is $10 in January and this drops to $7 per share in June, DCA ensures you buy more shares in June.
- Long-Term Benefits: DCA encourages consistent investing, which is crucial for long-term growth. Whether you’re contributing to a retirement plan (your superannuation) or investing independently, DCA helps you stay disciplined and avoid emotional decisions.
- Risk Reduction: DCA helps manage risk by spreading investments over time. You invest a consistent dollar amount regularly, regardless of market fluctuations. This reduces emotional reactions and minimises the impact of bad market timing.
- Missed Opportunities: While DCA reduces risk, it may lead to lower returns compared to lump-sum investing due to the time spent “out of market,” holding onto cash for longer. DCA suits long-term investors who adopt a buy-and-hold strategy. If you’re in it for the long haul, DCA can be a smart approach!
Example to understand DCA better: Let’s say you plan to invest $2,400 in a managed fund this year. You have two options:
- Invest the entire amount at once as a lump sum (e.g., in January or December).
- Alternatively, spread your investments over 12 months (e.g., $200 each month).
If you choose the latter, you’ll likely end up with more shares due to the lower average price as DCA will lead you to buy more shares at a lower price per share.
Remember, DCA doesn’t guarantee profits, but it’s a prudent approach for most investors. By removing emotion and focusing on consistency, you can build wealth steadily over time to meet all your long-term goals.
Mehak Advani (MAdvFin, CFA Level III Candidate, MCom (Bus. Admin + Acc.), BMgt [Fin]) is an Employee of Alman Partners Pty Ltd, Australian Financial Services Licence No: 222107.
Performance data shown represents past performance or simulated performance. Past performance is no guarantee of future results and current performance may be higher or lower than the performance shown. The investment return and principal value of an investment will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost.
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