How Often Should You invest? - Understanding the benefits of Dollar-cost Averaging
March 20, 2021
Is it best to invest monthly or annually? Here's why investing regularly is important and how it can help you reach your investment goals.
What is Dollar-Cost-Averaging?
Dollar-Cost-Averaging (DCA) is the act of taking your investment budget and allocating it over several periods. That can mean taking a sum ready to be invested and allocating it to some investments over several periods or it could mean starting new regular contributions to some investments consistently over time.
Why is dollar-cost-averaging important?
Very few investors make only one deposit in their investment lifespan. So, if most investors make deposits regularly, choosing the frequency and time frame for those investment deposits to best suit your budget and other financial needs can make the most sense. Assuming the investment someone is looking to make has low or no transaction costs, dollar-cost-averaging can be an effective investment strategy.
What are the benefits of dollar-cost-averaging?
There are several benefits and advantages to dollar-cost-averaging. Some are purely mathematical while others are psychological or behavioural. Let’s start off by explaining the advantage named in the strategy title: cost averaging. The more often you buy a certain investment, it is said to average-out your purchase cost per unit. If you buy one unit of a volatile investment fund at four different times in the year at $10, $8, $12, and $14 per unit, your average cost per unit is $11. If you would have waited at the end of the year to buy the units, your cost per unit would have been $14 and no gains would have been realized from your earlier purchases. With hindsight, someone could argue that it would have been better to make one purchase at $8 per unit. However, since it is almost impossible to perfectly time market highs and lows, DCA takes the guessing out of the investment equation.
It can also benefit those who already have capital to invest. If an investor is concerned about markets falling after investing a large sum of capital, using dollar-cost-averaging to spread out the investment deposits can make sense in order to have capital invested in the times where markets are low. And because markets tend to fall more sharply than they climb, the more often you plan your deposits to happen, the more likely you are to capture and invest into market lows which can lower your average cost per unit of investment. Having a lower average unit cost is one way to generate returns on an investment where the unit value is expected to go up in value over time.
How will it help me reach my goals?
Other than averaging your unit cost, dollar-cost-averaging has other benefits to the investor. Most importantly, many Canadians manage their budget on monthly or shorter periods. Therefore, it makes a lot of sense to align investment deposits on the same schedule to avoid the risks that life gets in the way of making your planned investment deposits.
Lastly, using a dollar-cost-averaging investment strategy will help investors focus on the things they have more immediate control on like their rate of contribution rather than their rates of returns. It can help investors avoid the costly pitfalls of market timing which can have a devastating impact on investor returns and morale.
Most Canadians already use some form of dollar-cost-averaging in their savings & investment plans whether done consciously or not. Pension plans are the best example of using dollar-cost averaging. I believe most investors can learn a thing or two from imitating these successful plans.
Marcel LeBlanc, CFP®, CIM® is a Financial Planner with Louisbourg Investments. You can find more from him on Facebook and LinkedIn. Comments or questions may be submitted to Marcel at firstname.lastname@example.org, or he may be reached at (506) 383-5204
Read more articles from Marcel:
How To Create a Retirement Plan (3min read)
TFSA Basics - Understanding the Tax-Free Savings Account
This writing is for general information purposes only and is not intended to provide legal, accounting, tax or personalized financial advice. If you are not sure how to proceed with a request for further information, seek help from a professional. Any opinions expressed are my own and may not necessarily reflect those of Louisbourg Investments.