What is dollar cost averaging (and how can it make you rich)?

Did you hear about the guy who retired with $70 million earning $14,000 a year?

Would you like to know how he did it? I’ll explain it in this article, and show you how you can apply the same principle to build wealth.

How can I win the money game?

You’ve probably heard of stock market crashes, right? Most people are scared to death of them.

  • Savings wiped out.
  • Retirements shattered.
  • Bankruptcy.

My goal for you is to win the money game. You can get rich slowly. To do so you have to invest each and every month (or as frequently as possible).

$25 every month.

$100 every month.

$250 every month.

Whatever amount works for you. Just make sure you can stick to it – that’s the key! You have to build the habit of investing.

Dollar cost averaging

When you regularly invest equal amounts, you maximize the amount of money you can earn over time. It’s called dollar cost averaging.

Ok, you can stop right here if you just want to take me at my word. If you’re someone that wants to get into the ‘why’ of what I just said, keep reading. I’m going to give you a simple example to explain why investing regularly is better, than say, saving up $1,000 and investing it once per year. Or investing your tax refund every year and that’s it.

Dollar-cost-averaging is the fancy term to describe an investment strategy that reduces your risk when the stock market tanks.

The dollars and cents of dollar cost averaging

Since I’m here to educate, I’m going to give you an example of dollar cost averaging and explain why it works (and why you should invest even when the market tanks).

Rather than use a bunch of made up hoo-hah, let’s use the actual stock market crash of 2008 for our example.

Between October, 2007 and March, 2009 the stock market lost more than 50% of its value.

The crash of 2008 is pretty recent enough for most of us to remember, so it’s a perfect example you might be able to relate.

As a side note do you know what I did when the stock market tanked in 2008?

I kept investing as much as I could. Read on to find out why.

I like nice round numbers and being generous, so pretend I just gave you $18,000 to invest (Thanks Scott!). You’re welcome.

We’re going to compare dumping the entire $18,000 into the stock market at once vs. investing $1,000 each month for 18 months (dollar cost averaging).

Invest all at once

Let’s say you’re going to invest in a good index fund that lets you buy shares for $20 each. With your $18,000 you buy 900 shares in October 2007.

Eighteen months later the market is down 50%. You still have 900 shares, but they are only worth $10 each. Your total investment is now worth $9,000.

Total investment: $18,000
Total shares: 900
Total investment value at the end of 18 months: $9,000

Dollar cost averaging

Dollar cost averaging occurs when you make regular monthly investments in equal amounts. You do this month in and month out no matter what the stock market is doing.

If the stock market tanksyou invest the same amount.

If the stock market is boomingyou invest the same amount.

When the stock market is tanking, your investment will buy more shares. When it’s booming, your investment will buy fewer shares.

The strategy of investing over time is what will make you money.

Let’s go back to our example. In our example, we have $18,000. With dollar cost averaging we’re going to invest $1,000 each month for 18 months. Once again, we’re going to start investing when the stock market crash of 2008 began.

The share prices used in the example are roughly what the price would be based on the percent decrease that occurred in the stock market over 18 months during the crash.

MonthPriceShares Bought
October, 2007$2050
January, 2008$1855
March, 2009$10100


Total investment: $18,000
Total shares bought: 1,191 shares
Total investment value at the end of 18 months: 1,191 shares X $10 share = $11,910

As you can see at the end of the 18 months, the stock price has lost 50% of its value. As the stock price dropped, you would have been able to buy more shares.

See the timeline of the Stock Market Crash of 2008

Comparing buying all at once to dollar-cost-averaging

When you invested all $18,000 at once, you would have lost $9,000 by March, 2009.

With dollar cost averaging you would have lost $6,090 or $3,000 less.

But wait!!! I lost money either way!

That’s true, but we’re not done yet. Because you, my friend, are a long-term investor. We’re not investing for eighteen months and then quitting. We’re going to keep investing in 2010, 2011, 2012, and so on.

The question is what are your shares worth today in 2015? The stock market at the time of this writing is** 26% higher** than in October, 2007. Which means your shares would be worth 26% more.

Let’s continue…

Remember when if you had bought your stock all at once you had 900 shares, and they cost $20 each. Since the market has gone up 26%, each share is now worth $25.20.

900 shares X $25.20 = $22,680

What about with dollar cost averaging?

1,192 shares X $25.20 = $30,038

Because you were able to buy more shares when the price was low, when the stock market recovered and started doing well again you’ve made a bunch of money.

With dollar cost averaging the additional shares you were able to buy are worth an additional $7,358 compared to if you had bought the stock all at once.

And as the stock market continues to climb over time (2016, 2017, 2018, etc.), you will continue to make more and more money because of the additional shares you own.

Ok, great, what if the market is rocking?

Past performance is not an indicator of future gains.

I’ll repeat that in case you missed it:

Past performance is not an indicator of future gains.

Oh, you know that tomorrow the stock market is going to be up?

Dude, tell me your secret!

Nobody – not even Warren Buffett – nobody knows what the stock market is going to look like a day from now, a week from now, or a year from now.

Dollar cost averaging works over the long run because nobody can predict what the market will be doing. And since investing is for the long run, you’re best bet is to invest month after month after month after month.

Ok, shouldn’t I wait until the market is at the bottom instead?

Ummmm…could you please tell me when that will be?

Nobody predicted the crash of 2008 would wipe out 50% of the stock market’s value. Nobody guessed when the bottom would hit. Nobody can, and nobody will in the future.

Setting aside a fixed amount each month to invest in the stock market is one of the key components to getting rich. Just ask the guy who saved up $70 million.

If you’re new to investing read my simple guide on how to get started investing without a lot of money so you can start becoming rich today.

Question: Are you investing a little each month so you can become a millionaire? Please leave a comment below.