I am ready to start investing. Should I drop all my money in at once? What is an easy buying strategy for starting today?
When we have identified a good investment opportunity, it's often too risky to put all our money in at once. How many times have we heard of a friend or someone we know buying shares, and then the market drops right after? Trying to time the markets is difficult, and dollar-cost-averaging lessens the pain when we get it wrong.
How does it work?
By breaking up our initial lump sum investment into equal payments, we can spread out our purchases to reduce our risk to market movements. The strategy is especially helpful if the market dips while we are buying.
Like any strategy, there are some disadvantages to dollar-cost averaging. We are trading our possible upside returns for some downside protection. For instance, if the price of an investment keeps going up after the first day we purchase it, then our returns are going to be lower than if we had just made one lump-sum purchase.
While not perfect, DCA is a great way to get started because it's simple and not time-intensive.
Dollar-cost-averaging every month can be an effective strategy for long-term investors, while dollar-cost averaging every week or every 3 days can be an effective strategy for short-term investors.
A quick rule of thumb is no less than 4, and no more than 10 increments. Deploying more than 25% (4 increments) of our investment capital can still expose us to market timing risks. More than 10 increments can mean that we have stretched out our investment over a period of time that's too long and things may have changed so that the investment is no longer a good one.
Here is another video that goes more into more detail about how dollar-cost averaging works over a period of time. It's an 8-minute video but the video explains the emotional advantages of dollar-cost averaging.