The smartest way to plan for your future is investing. No one will question that, but the hardest part of investing is knowing when to invest your money.
An easy way to take the guessing out of the process is by using a strategy known as dollar cost averaging.
Dollar cost averaging is the strategy of investing a pre-determined amount of money at pre-determined intervals. For example, say you can afford to invest $200 a month. You decide to make this investment at the same time each month, and do so regardless of market conditions.
If the market is up, you invest your $200. If the market is down, you still invest your $200. In some cases, you will be overpaying for your investment, but in other times you will buy shares at a value. The rationale is that over the course of long periods of time you wind up paying an average price on your shares.
The main advantage of dollar cost investing is that it does not take a lot of money to get started, so virtually anyone can do it.
You can open brokerage accounts for a very small amount, and then each month make small purchases on a regular schedule. However, you really need to pay attention to your broker’s commission and fee structure. The smaller the amount you plan to invest each month, the more important commissions become. Look around, you can find some very low-cost brokerages out there. High commissions will kill your returns, especially if you are only investing a small amount each month.
A second advantage is that you have the peace of mind knowing that you are constantly building your portfolio. Once you get into the habit of making your monthly investment, it becomes easier to stick to the plan. Making irregular deposits into your portfolio makes it much easier to skip a payment every now and then. Building a plan encourages you to stick to it.
It is easy to convince ourselves that we are smarter than we really are. We all want to believe that we can perfectly time the market, but very few investors are able to successfully do this. Dollar cost averaging may prevent us from getting in at the perfect time, but it also removes the risk of consistently getting in at the wrong time.
In investing, long term consistency is the key, and dollar cost averaging is the perfect way to build a portfolio is a consistent manner.