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Markets are unpredictable and investing can often be a nerve-wracking pursuit. Investors are usually more inclined to invest a lot of money when the going is good and are conversely scared off from investing when the market dips. This may seem like common sense, but there is actually a far more sensible way of investing. Regular savings made over a long period of time, an investing strategy known as dollar cost averaging, is proven to make the most of the volatility in financial markets.
When markets are not doing well, many investors often decide against investing. However when markets move up again, those who did invest in the particular share will benefit greatly.
Investing a lot of money in a single punt on a poorly performing stock is obviously not a wise choice, but if an investor makes small contributions on a regular basis – both in good times and bad – they will eventually see a good return from the shares. The idea behind dollar cost averaging is to make regular and equal contributions to an investment over a long period of time.
Investing using the dollar cost averaging method promotes disciplined saving and decreases the stress of constantly trying to monitor markets. The real benefit of investing in this way is if contributions are made when prices are low, more shares are actually purchased and at a good price. Assuming the stocks chosen are in sound, dependable companies then when the price rises the dollar cost investor will see a significant return. When share prices are higher the investor will get fewer shares for his money, the result being that in the long term is that the average cost of the shares is lower than the mean average price, which means in a lower overall buying price.
As an example let’s look at a case where $1000 per month is invested in two funds. During the first 12 months, Fund A shows steady growth at 2% per month whereas Fund B falls by over 30% in the first few months, recovering back to the initial level by month 12. It may seem counter intuitive but the investor in Fund B will actually see a better return; in fact, as illustrated in the graph, below he will see almost twice the return of the investor in Fund A!
Dollar cost averaging is one of the great benefits of setting up a regular savings account. If you would like to find out how it could help you contact Infinity for a free, no obligation consultation.