Dollar-cost averaging (DCA) is an investment strategy in which the investor systematically deposits funds into an investment account over time rather than investing all available funds at once.
You likely are already systematically depositing funds into your 401k, but there are many benefits to using this strategy with your non-retirement investment accounts as well. This is especially true if you are investing long-term. One upside to DCA is lowering the overall cost of your investments. DCA creates an opportunity to reduce the average cost of investments in your account.
For example, if an investor wants to put $12,000 into their portfolio, they can choose to deposit the money in full at the beginning of the year or deposit $1,000 each month. If the cost of investment was $12 a share in January, and then dropped to $10 a share in February, a $1000 purchase in February gets an investor more shares than in January. If this type of volatility continues throughout the year, the investor could end the year with a lower average cost of shares in their account than if they purchased all the shares at once at the beginning of the year. The lower the cost of your investment translates to more gains in your account over time. Understanding the cost of your investments is equally important when making withdrawals from your account.
Systematically withdrawing funds is necessary for many, but should be closely monitored during times of extreme market volatility. Suppose a retiree takes $3,000 from their account every month. The average share price in the account is $100 per share. Every month, the retiree sells 30 shares to receive that $3,000. But what if the market declines and the retiree’s shares are now worth $80 each? The retiree will now need to sell more shares at a price lower than what they paid to generate the $3,000 required for that month. It is in situations such as these that financial planners are extremely useful. Your advisor can give insight into whether this sharp decline in markets should impact your decision to continue a monthly withdrawal.
If you are interested in incorporating the DCA strategy to build up your portfolio or are wondering how withdrawals from your accounts right now are affecting your financial plan, please do not hesitate to contact your advisor. We want to ensure you are doing everything you can to get the most out of your hard-earned savings.
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The Twin Rivers team wants to guide you on your journey to financial success. If you have any questions about the topics above or would like to discuss any financial decision you are facing, please do not hesitate to contact our team.