Dollar cost averaging eases stress for investors

May 17, 1992|By Stephen Advokat | Stephen Advokat,Knight-Ridder News Service

With the stock market at a near-record high and interest rates at an anemic low, investors find themselves wrestling with a dilemma.

Should you buy another certificate of deposit paying only 3 percent or 4 percent interest? Or should you put the money into the stock market, even though the Dow is flirting with 3,400?

Invariably, small investors fret, and often err, trying to decide.

Historically, the stock market has produced higher returns than CDs. But is the market on a roll or poised for a stomach-churning fall?

"Investors have a knack for buying high and selling low," says Roney & Co. stockbroker Larry Moss. "You need a discipline that forces you to buy even when the market goes down."

That discipline is called dollar cost averaging, a system that takes a lot of the stress out of buying stocks.

Rather than predict a market's low, dollar cost averagers choose an amount -- such as $50 or $100 a month -- and religiously buy into the market regardless of the Dow.

When the market is high, as it is now, $50 will buy fewer shares than when the market is low. But studies show that over time, this slow but steady approach to investing pays off.

"Dollar cost averaging levels out the highs and lows, so you're not always buying at the high," says financial planner Ron Davies of R.O. Davies & Associates in Troy, Mich. "It takes you through the turbulent times, so you're not always doing the wrong thing at the wrong time."

Not convinced that buying into a high market isn't foolhardy? Consider this:

Managers of the Washington Mutual Investment Fund, a growth and income fund ($250 initial minimum investment, $50 subsequent investments; 5.74 percent sales fee; [800] 421-0180 any time), charted what would have happened if you invested $5,000 once a year for 20 years in their fund, picking the one day every year when the market was at its low.

That is, you picked the best day every year to invest. If you were that lucky after 20 years, your annual $5,000 investments would have grown to $661,563.

Now suppose that rather than pick the best day each year, you picked the worst day every year to invest.

For 20 years, you consistently chose the one day every year when the market was at a high. Even so, after 20 years you would have amassed $530,484.

That's more than $130,000 less than having picked the best day, but it's still a tremendous amount of money, and much better than some safer alternatives.

If you had put that $5,000 a year into a passbook account paying 5.25 percent interest, in 20 years your account would be worth only $178,679.

Washington Mutual is only one of scores of mutual funds with ......TC program that makes dollar cost averaging almost painless.

The Janus Group of Mutual Funds, for example, will withdraw electronically as little as $50 per month from your savings or checking account and send it to any of six of its mutual funds.

In the past, that's been a good deal for investors.

Last year, for example, the Janus Twenty Fund (no commission; [800] 525-8983, any time) reported a 69.21 percent total return.

That's an unusually high return. Last year was a good year for stocks in general. And mutual funds could return less, or even lose money, in a given year.

But over time, stocks have earned an average of about 11 percent. Money you invest in the stock market should be money you will not need for a long time, six years or more.

On average, the economy goes through an up and down business cycle in about that time, so six years allows you to weather unforeseen downturns as well as enjoy good markets.

"If you were to cash in a CD or inherit some money, this would be a very scary time to invest in the market," says Janus spokeswoman Chrissy Snyder.

"There is a risk you are investing at a market high and that your investment will suddenly go down. But dollar cost averaging provides peace of mind. It's best to go slowly, and it's the way many fund managers buy stock."

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