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Dollar-cost averaging is one of the most commonly used terms in discussions of retirement savings, but what is it?
The technique of dollar-cost averaging, simply described is, making regular contributions to your plan. Each time you contribute to your plan, your contributions buy units of your chosen investment options. When the market goes up, the value of your holdings increases and you buy units at a higher price. When the market goes down, you buy more units at a lower price.
Over time, this technique can lower the average price you pay per unit (unit value). You also eliminate the guesswork determining when to buy units by adopting the practice of dollar-cost averaging. You don't have to time the market and you gain the advantage of the length of time your contributions are invested in the market.
Dollar-cost averaging only works if you contribute on a regular basis to your plan. Automatic payroll deductions can help you frequently contribute and it saves you the time and effort having to remember to write a cheque.
Take a look at Terry…
Terry contributes $100 per paycheck to his group retirement savings plan. See how dollar cost averaging works for him.
Average unit price: $6.00 ($24/4)
Terry's average unit cost: $4.24 ($400/94.3)
By contributing each month, Terry pays an average of $1.76 less for each unit he purchases. Experience has shown that dollar-cost averaging beats market timing just about every time over the long term. It's better to adopt a dollar-cost averaging approach. It helps you ride out the ups and downs of the market – plus it's easy.
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