Dollar Cost Averaging
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Help lower your overall cost of investing.
The prices of many investments like stock and bond mutual funds rise and fall daily. Ideally, you want to
buy low and sell high – but there’s no way of knowing ahead of time if the price of a particular investment
is going up or down.
That’s where dollar cost averaging comes in.
With dollar cost averaging, you invest the same amount of money at the same time every week or month or
quarter – whatever interval you choose. The point is to invest on a set schedule, regardless of what is
happening in the market.
Say, for example, you invest $400 in a mutual fund on the first of every month. When prices are low, your
$400 buys more shares. When prices are high, it buys fewer shares. Over time, your total purchase costs will
average out.
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You can also use dollar cost averaging if you have a lump sum of money to invest, say proceeds from the sale of your house, a bonus from work or an inheritance. To avoid the risk of investing the money all at once when prices are high, you can divide it into a few equal “installments.” It’s important to note, however, that dollar cost averaging doesn’t guarantee that you’ll make a profit or that you won’t lose money in a declining market.
Dollar Cost Averaging At Work
| |
Investment Amount |
Price Per Share |
Number of Shares Purchased |
Month 1 |
$400 |
$20 |
20 |
Month 2 |
$400 |
$25 |
16 |
Month 3 |
$400 |
$20 |
20 |
Month 4 |
$400 |
$16 |
25 |
Month 5 |
$400 |
$20 |
20 |
Month 6 |
$400 |
$25 |
16 |
Total amount invested: $2,400
Total number of shares purchased: 117
Average cost per share: $20.51
Laddering is a dollar cost averaging tool for CDs.
When you’re buying CDs, you can achieve the benefits of dollar cost averaging by “laddering” your CDs. This means buying a series of CDs, each with a different maturity and interest rate.
Say, for example, you have $10,000 to invest:
- Instead of buying a single $10,000 CD, you would buy five $2,000 CDs — a one-year CD, a two-year CD and
so forth up to a five-year CD.
- Each CD is like a rung on a ladder, with different maturities paying different interest rates — you
don’t commit all of your money to one maturity or rate of return.
- As each CD matures, you roll it over into a CD with the longest term in your ladder — five years in this
example. This give you the benefit of capturing the higher yields typically paid by longer-term CDs.
- Because you have a CD maturing each year, you always have access to your money ... and the opportunity
to reinvest at prevailing rates.