If you’re new to the world of investing––or even if you’re a seasoned investor looking to reroute––choosing between strategies can feel overwhelming. There are so many different tricks and techniques out there, and without a crystal ball, it can be difficult, if not impossible to know which ones will yield the best results.

One such investment strategy is dollar-cost averaging (DCA), which involves investing a fixed dollar amount in a particular stock or fund, regardless of its current price. But is DCA the right approach for you? In this blog post, we’ll explore the pros and cons of dollar-cost averaging in a volatile market.

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The Advantages of Dollar-Cost Averaging

While dollar-cost averaging certainly shouldn’t be viewed as a panacea, it does offer several key benefits. Here’s a look at some of the reasons DCA has become such a popular strategy for investors trying to navigate volatile markets. 

Consistency in Investing

If you’re seeking a consistent, straightforward strategy, dollar-cost averaging may be the way to go. Rather than trying to predict the highs and lows of asset prices, you invest a fixed amount at regular intervals, regardless of the market’s current conditions.

For example, if your monthly take-home pay is $3,000, you might choose to invest 5%, or $150, each month. This removes guesswork and strategizing from the equation and helps you get in the habit of investing consistently, even if you don’t reap huge returns right away.

If you sit around waiting until the market stabilizes to start investing, you could be missing out on financial gain––and you may fail to start investing altogether. They say there’s no time like the present, and dollar-cost averaging makes it easy for investors to make a habit of investing on a regular basis, which can pay off in the long run.

Lower Average Costs

One of the biggest advantages of dollar-cost averaging in volatile markets is that it tends to reduce the average cost of the investment over time. You can buy more shares when prices are low and fewer shares when prices are high.

Here’s how this works.

Say you purchase 10 shares when they are each $10. The following month, you buy the same amount of shares, but their price has dropped to $7. By investing consistently each month with DCA, you can take advantage of this kind of price decline, reducing the average cost per share. 

While there may be months that the price is higher than your original purchase price, it will average out over time to save you money in the long run. This can be especially beneficial during extended periods of market downturns or corrections. By participating in DCA, you put yourself in a great position to achieve gains when the market recovers. 

Minimizing Market Risk

For new investors especially, trying to time the market can feel like a colossal undertaking. Focusing too much on finding the perfect time to buy or sell can lead to all sorts of risky decision-making and emotional investing, which can spell disaster for your investment strategy. 

To limit the role of emotions in market volatility, many investors leverage DCA. That way, rather than trying to beat a volatile market, they can take a slow and steady approach, investing at regular intervals to take advantage of the market’s ups while tolerating its downs. The key is to focus on your long-term goals, the big picture, not what’s happening at the moment. 

What to Consider Before Getting Started With Dollar-Cost Averaging

DCA can be a winning strategy for new investors or those who are otherwise seeking consistency, but it has a few downsides to be aware of. Don’t jump in before considering these points.

Complexity and Fees

Dollar-cost averaging may not be ideal for investors who prefer a hands-off approach, as it requires regular participation and monitoring. Where with lump sum investing you only have to make a single investment, DCA is ongoing and usually involves making monthly payments. Additionally, each transaction can incur fees, potentially eroding the value of your investments. 

Lost Opportunity Cost

Though there are certainly upsides to spreading your investments over time, failing to invest a large upfront sum may lead to missing potential gains during periods of market growth. So much is about luck and chance and timing the market just right, and DCA doesn’t always lead to impressive gains. 

Historically, lump sum investing outperforms cost averaging 68% of the time, which is something to keep in mind if you’re hoping to “get rich quick,” so to speak, or even achieve large returns over time. DCA is usually best for risk-averse investors that have no problem playing the long game.

Delayed Capital Deployment

In a volatile market, DCA capital may not be deployed straight away, resulting in your money sitting idle for extended periods of time. And if you’re hoping to take advantage of compound interest, you probably don’t want that. 

Delayed deployment can be especially troublesome during inflation or periods where markets are broadly rising. By just sitting around, your investments lose value. Even in markets where “safe,” short-term investments offer modest returns, keeping too much of your capital in cash while waiting to invest according to your DCA schedule may result in the funds being underutilized.

Understand Dollar-Cost Averaging: The Good, the Bad, and the Ugly

Your investing journey is unique to you, and the strategies that work for some investors may be less than ideal for your particular situation. Dollar-cost averaging is one of those strategies that some investors appreciate, while others snub. Understanding the pros and cons of DCA can help you make an informed decision and grow your wealth in a manner that aligns with your needs, risk tolerance, and desired gains.

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