Dollar Cost Averaging

Investing in the stock market involves a lot of unpredictable factors. So many first time investors get scared off by not knowing what stock(s) to buy at what time. Timing the market is a daunting task, but thankfully there are strategies that take timing out of the investing equation.

Dollar Cost Averaging is an investment method that mitigates the risk of timing the market by dividing up initial investment over time. The concept is simple. Rather than trying to buy low and sell high, the investor picks a fixed incremental dollar amount to allocate over time.

Dollar Cost Averaging Example

For example, Investor A wants to invest \$5000 in stock XYZ. He decides to buy 100 shares at the current price of \$50 per share. His friend, investor B decides to buy \$5,000 of stock in the same stock, but \$1,000 at a time on the first day of the next five months (dollar cost averaging).

Stock XYZ Prices:

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Month 1: \$50

Month 2: \$45

Month 3: \$40

Month 4: \$48

Month 5: \$52

Month 6: \$60

By month six, Investor A has \$6000 with a \$1000, or 20%, net return. Investor B however, has a total equity of \$6,437 for a net return of nearly 29%. Investor B took advantage of the changes in price in order to net greater returns by splitting up his initial investment over time! By fixing a dollar amount invested per month, Investor B was able to buy more shares at lower prices and fewer shares at higher prices.

Not satisfied? Let’s take a look at a real stock: Tesla.

Dollar Cost Averaging in Real Life

Tesla June 15, 2018 – October 29, 2018

Investor A decides to invest a lump sum of \$50,000 into Tesla on June 15th, 2018 at a price per share of \$354. Investor B also decides to invest \$50,000, but in increments of \$10,000 on the 15th of each month.

June 15: \$354

July 15: \$312

August 15: \$342

September 15: \$289

October 15: \$260

Current Price: \$333

At the current price, Investor A has actually lost money. His initial investment of \$50,000 is now worth only \$47,034. However, Investor B, who bought \$10,000 worth of Tesla stock on the 15th of each month now has \$54,146 for a net positive return of 8.3%.

While no investment method is foolproof, dollar cost averaging lowers risk for investors with long term investing goals. It’s not going to get you rich quick, but it is a smart way to make the most of changes in stock prices over time. Try dollar cost averaging with your Wall Street Survivor virtual portfolio today!

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#4. Dollar Cost Averaging Works! Since nobody knows where the bottom will be exactly, smart investors continue to invest a fixed dollar amount in the market each month. This is called Dollar Cost Averaging. That way, when the markets are down you are buying more shares of your favorite stocks at cheaper prices. This helps drive down your average cost and increase your profits when the stock market moves back up.

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