If you want to take the emotionalism and timing worries out of investing in shares and ensure you buy more of them when the price is lower and fewer when the price is higher, then why not consider adding ‘dollar cost averaging’ (DCA) to your investment strategy? Don’t be put off by name, dollar cost averaging (DCA) is just a fancy term for a regular savings plan where you invest equal amounts of money at predetermined intervals in shares or units.
A DCA strategy is ideal if you – like a lot of people don’t have large sums of money to invest immediately – like the idea of accumulating a share portfolio, which over time will return significantly more than parking the same amount in a bank account.
The real beauty of a DCA strategy is that it allows you avoid the risks associated with trying to pick the cheapest time for large single share purchase, which is virtually impossible. The aim of dollar cost averaging is that the average cost of the investments will always be below the average value of the investments during the period in question.
A DCA strategy works best within a highly volatile share market environment like the one we have now where the ASX index can and does move over 1% within very short periods.
When share prices fluctuate significantly over any given month – as they do now – you stand a good chance of being better off with a DCA approach. So by easing your entry into the share market through regular purchases, you can end up with an average buying price that’s lower than the average price over the same time-frame.
The next effect of deploying a DCA strategy is that during a downward trend, you’re purchasing shares at progressively cheaper prices, and during an upward trend, the shares previously held in the portfolio are producing capital gains and fewer shares are being added at the higher price.
Once you’ve committed to the principle of regularly investing through a DCA strategy you’re exposing yourself to an asset class offering the best potential for capital growth – which is the single biggest reason for investing in the share market. Average returns for the last 18 years – 1995 to 2012 – saw listed Australian shares deliver 10.93 percent, while cash and fixed interest delivered 5.63 percent and 7.88 percent respectively. So remember that based on the the principle of compounding returns, an investment earning 10 percent annually doubles every 7.2 years.
Let’s look at an example of how a DCA strategy works in practise.
In the following table an investor who has adopted a DCA strategy benefits despite the upward and downward fluctuations in the market. The average cost of the units at the time of the last investment is $1.01 ($2,000 divided by 1977 units), yet the value of the share at that point in time is now $1.40.
|Share price in 3 months’ time|
|Share price falls in 6 months’ time|
|Share price rises in 9 months’ time|
|Share price as at 12 months’ time|
To find out more about how this strategy can help you grow your wealth call Delta Financial Group on 02 9929 3343 or [email protected]