Dollar cost averaging means making periodic investments of the same amount of money in the same stock regardless of whether the price of the stock is going up or down. The most common form of dollar cost averaging is to buy a certain dollar amount of a certain stock or mutual fund on a certain day of each month or with each pay cycle. Rather than trying to “time” the market, when you use dollar cost averaging you are accepting the risk that sometimes you buy high and sometimes you buy low but in the end the price will “average” out.
The return on your investment will also end up being averaged because the time spent waiting to make a lump-sum purchase represents an opportunity cost where your money is not working for you. Dollar cost averaging is a strategy that keeps your money invested. There are too many variables to predict whether or not dollar cost averaging will always yield a better return, but some consider it a wise investment strategy because it keeps investors in the market.
Related Terms: Buy and Hold – Portfolio Diversification – Asset Allocation – Individual Retirement Account