Dollar-Cost Averaging
Invest fixed amounts at regular intervals to remove emotion and timing from the equation
Dollar-cost averaging is the practice of investing a fixed dollar amount in a particular investment at regular intervals, regardless of the share price. When prices are low, you buy more shares; when prices are high, you buy fewer. Over time, this results in a lower average cost per share than the average price over the same period.
Graham endorsed this approach as the ideal method for the defensive investor to build a stock position over time. It removes the need to time the market, eliminates the emotional burden of deciding when to invest, and turns market declines into opportunities rather than threats. The discipline of regular investment also combats the natural human tendency to procrastinate or panic.
The method is most powerful when combined with broad diversification (such as investing in a total market index fund) and a long time horizon. Graham noted that an investor who had used dollar-cost averaging into the Dow Jones Industrial Average throughout its history would have achieved satisfactory results under almost all conditions.
- Consistency beats timing — regular investment in all markets outperforms sporadic attempts to time purchases
- Market declines are beneficial to the dollar-cost averager because they allow more shares to be purchased
- The method works best when maintained through both bull and bear markets without interruption
- Automation removes the psychological barriers that prevent most people from investing consistently
- Time in the market matters more than timing the market
- Set a fixed investment amountDetermine a consistent dollar amount you can invest at each interval. This should be an amount you can maintain through good times and bad. It is better to start with a smaller amount you can sustain than a larger amount you will abandon.
- Choose your interval and vehicleSelect a regular interval — monthly is most common, but biweekly or quarterly also work. Choose a broadly diversified investment vehicle such as a total stock market index fund. Minimize fees, as they erode the compounding advantage over time.
- Automate the processSet up automatic transfers and investments so the process requires no active decision each period. Automation eliminates the temptation to skip a month because the market feels uncertain or to double up because it feels safe.
- Maintain discipline through all market conditionsThe most important step is continuing to invest during bear markets and crashes when every instinct screams to stop. These are the periods when dollar-cost averaging does its best work. Revisit your commitment annually and increase the amount as your income grows.
Investors who maintained their regular 401(k) contributions through the 2008-2009 market crash bought shares at prices 50% or more below their previous highs. While their account values declined temporarily, the shares purchased at depressed prices became the highest-returning investments in their entire portfolios when markets recovered.
Graham discussed dollar-cost averaging as part of his advice to defensive investors on formula-based investment plans. He observed that investors who tried to time their purchases almost invariably did worse than those who simply invested at regular intervals. The method became a cornerstone of the automatic investment plans that mutual funds and later 401(k) plans made widely available.