Investing Spotlight: Dollar-Cost Averaging and Compound Interest FAQs

Dollar-cost averaging1 and compound interest are two investing concepts that can help you build your retirement savings. Here’s more about how they work, how you can use them, and how they can help you save for the future.

What is dollar-cost averaging? With dollar-cost averaging, you invest a set dollar amount on a regular basis, no matter what happens in the stock or bond market. If you invest $200 every month, for example, you’ll buy more shares when the market is down and fewer shares when the market is up.

How is this better than trying to time the market? It’s almost impossible to time the market, and people tend to make big mistakes when they try – sometimes waiting to buy after prices are high, or panicking and selling when the market is down. Missing a few key days in the market can make a big difference in your retirement savings. Investing money automatically every month can help take the emotions out of investing and alleviates the anxiety of trying to time the market. When the market is down, your investment will buy more shares to grow when the market turns around. Dollar-cost averaging helps provide the discipline to continue investing regularly, which can make the most difference in your savings over the long run. See the table below with an example of dollar-cost averaging.

Example of Dollar-Cost Averaging
Dollar Cost Averaging

How can I dollar-cost average with my retirement savings? If you have money automatically invested from your paychecks into a 457 or 401 plan, then you’re already dollar-cost averaging. You determine the dollar amount or percentage of your income to invest with every paycheck, and the money is automatically invested. You can also sign up to have money invested every month into an IRA from your bank account or paycheck.

How can this help me save? You’re saving automatically, so the money is going into the plan before you have a chance to spend it on anything else and you don’t need to remember to invest.

What is compounding and how does it help? Saving on a regular basis over the long term also helps with another key concept – compound interest. Compounding refers to earnings on earnings. When you have interest, earnings, or dividends automatically reinvested from your fund or investments, you’re earning money not only on the amount you contribute, but on your earnings, too, which can make a tremendous difference in your total account value.

1Dollar-cost averaging does not assure profit or protect against loss in a declining market. Since it involves continuous investment, investors must consider their ability to continue to invest during low price levels.


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