When learning how to invest, it can feel like there are so many moving parts to keep track of. Of course you think about how much you need to invest and what types of investments you’ll choose, but have you thought about how often you will actually transfer money into your investment accounts?
After navigating the waters when it comes to investing myself, I started to realize that once I figured out where I wanted to invest my money, I needed to start thinking about when I would actually buy investments. Having an investment schedule will make your life easier and eliminate many of the mental roadblocks we face when it comes to putting money into the stock market.
Dollar Cost Averaging + Why it is Important
Dollar Cost Averaging (DCA) is a fancy way to describe investing small amounts of money on a regular basis over a set period of time. For example, say you set a goal to invest $1,000 in 2020. If you followed DCA, you would invest $20 per week, which is $1,000 divided by 52 weeks in the year.
So why is this important? Because the market is volatile, and the price of different investments changes over time. When you invest a fixed amount on a fixed schedule, it has what is called a smoothing effect, meaning that you can take advantage of purchasing investments at both low and higher prices as the market moves. Ultimately, you end up purchasing the investment at an average price point, rather than all at once at a price that may not be favorable.
Obviously, we want to buy investments at the lowest price possible. However, given the market fluctuates daily (even hourly), this can be very hard and requires timing the market, which is virtually impossible. When you follow a DCA strategy, you reduce both the risk and anxiety associated with potentially investing at the wrong time. It removes a lot of the emotion, which is critical for smart investing.
Additionally, DCA allows investors to continuously invest, regardless of the market environment. This is important because historically, the market follows an upward trend. While there are fluctuations that happen for various periods of time, including both recessions and depressions that occur, if you look at the historical growth rate of the stock market it is largely positive. This shows that investing, regardless of market environment, will help you maximize your wealth and allow your money to grow. More often than not, during periods of economic downturn (like we experienced with COVID-19), investors are inclined to sell or avoid investing in general. DCA strategies help guide investors through periods of distress and maintain their investment cadence so they don’t miss out on the benefits of investing for the long haul.
How to Set Your Cadence
It’s important to remember that market volatility is simply part of investing. The only guarantee with investing your money is risk, and it is undeniable that assuming risk can deter beginner investors from even getting started in the market.
To set your own schedule, you first need to figure out your investment goals and budget, which I discussed in Part 1 of the series. Once you know what you’re investing for and how much you need to set aside, it is really easy to figure out the rest of the equation. For example, say you want to invest $5,000 over the course of 2 years. That means on an annual basis, you need to invest $2,500. Weekly, that is $48, or $208 per month.
How often you choose depends on a variety of factors, including how often you get paid, how comfortable you are with investing, and your current financial situation. Remember that every investment includes risk and you need to ensure you can afford losing money if the markets fluctuate.
Based on my own experience, once I have figured out how much I’ll be investing and how often (I invest weekly), I set it on automatic payment. I do this because:
It eliminates any thought or emotion regardless of the market environment
I don’t have to think about it or remember to do it
I can’t make any excuses and stick to my goals no matter what
I talk all about automating your finances here. Setting automatic payments is a no brainer if you’re trying to save more and really stick to a schedule, so based on your own financial situation it may be a great option to consider!
Investing can be scary, and it does require assuming risk. Setting a schedule and following a dollar cost averaging strategy helps remove emotion and take advantage of market volatility. Sometimes simplifying long-term goals and breaking them down into digestible pieces can make them feel far more attainable, which is advantageous in so many ways. Always remember, any investment requires risk and make sure you make investment decisions based on your own financial situation. This article is not intended nor should it be interpreted as financial advice. All action taken is at your own risk.