On DCA, put the numbers in a spreadsheet: say $50 a month at $20, $19, $18, $19, $17, etc. Bounce around a little bit - maybe go down to $12 to match our current economy, then back up to $16. You’ll probably find you made money even though the stock is down 20% from your starting point… Pretty good argument right there for DCA!

That said, DCA is a good method to use with the Buy-n-Hold strategy. It means nothing for traders and some other investment strategies. So if you don’t believe in Buy-n-Hold, it might not be a good idea.

The stock/fund price is what it is, I don’t care how/when you buy it. You can make money and you can loose money. Bottom Line.

A video introduction to dollar-cost averaging. Interestingly, Phil Town says that DCA doesn’t work in a flat or slowly-growing market. Hmmm….

I tend to like another strategy though. I invest around the same amount per month, but I always try to keep the percentages of each of my holdings the same. For example, let’s say one month I have $1000 in stock A, $2000 in stock B, and $4000 in stock C. The next month, those same stocks are worth A:$1500, B:$2000, and C:$3500. If I was putting in $1000, I would put it all into B and C, since A has too much of the percentage now.

This avoids one of the major problems of DCA, which is that if you always put the same amount into each holding, you end up with a less diversified portfolio. For example, you might start out with 50% US stocks and %50 foreign stocks. After a few years of great US stock earnings and poor foreign performance, you might have 80% US stock and %20 foreign stocks. Now if the US market goes bad, the foreign stocks will have a hard chance making up for the losses on your US holdings.

The dollar cost averaging method is a good way for someone to invest when they cannot invest larger amounts all at one time, but it can also hurt in the long run. If you don’t have time to activly manage your investments and are willing to suffer some returns, then average cost is your way to go.

Average cost means half the time you are buying low and half the time you are buying high. The higher the price, the fewer shares you get. In reality, the price is usually way too high on the day you buy and lower the day before and day after, because they know everyone’s “automatic” pay deduction hits the fund or market on the same day.

What I do is a combination of these methods. I invest in an IRA that is invested in a mutual fund (a Fidelity fund, if you must know, and not all funds are equal, but I have experience a 28% return in the last 12 months).

The difference is, I can put my monthly $333.33 contribution into the cash account earning money market rates until I am ready to buy a large chunk of whatever I wish to buy.

But, you say money market rates pay nothing, and don’t earn anything in 12 months? Why put the money in something earning next to nothing?

Because, when my mutual fund pays dividends the price drops SIGNIFICANTLY, and my $4000 dollars buys more shares that gain in value.

An example of my fund had a price per share of $19.29 per share before dividends and capital gains were paid. After these were paid, the price dropped to $16.41 per share, but I gained an additional 30.15 shares (that one day, I actually lost .03/share in total price). That same stock has grown from $2,897.21 for 174.216 shares @ 16.63 per share on 6/21/06 to $3,711.29 for 204.355 shares @ 18.16 per share on 4/20/07, a gain of $814.07 (give or take .01) or 28.10%

I admit this is not typical results, but this is not typical investing. Average cost is “Buy average, sell high”…this is “Buy low, sell high”, which yeilds atypical results.

So what does all that mean? Well if I buy the average rate, I will buy 1/2 of my purchases between 16.21 and 19.35, and the other half the other way around. Most of the time, it will be at higher rates and fewer shares. Or, I hold the money in the cash money market account and wait until dividends are paid, then pounce. Or, if the my fund drops lower than the dividend rate during the year because of market conditions, buying shares at the low rate mean more shares.

In my case, dividends were paid on 12/8/06. If I had bought $4,000 of shares on 12/7/06 at $19.29 per share, I would have only received 207.361 shares of this fund. Sure, I would benefit from the split (if I caught it in time), but lost .03 per share. If I bought on 12/8/06 after dividends were paid and the price dropped to $16.41, that same $4,000 would buy 243.754 shares. By waiting until dividends are paid, I gain 36.393 shares of stock in this fund.

If you must contribute small amounts monthly, then put them in a cash account that earns interest and is immediately available for purchase of stocks, bonds, or mutual funds, and buy at the right time, not the average time.

Also, diversity is the key. This example is just one fund, and if I were to invest in only mutual funds, I would certainly have more than one.

By definition, when you are doing a DCA, you invest the same amount each period. What this means in practice is that when your investment is at a lower value, you buy more shares, and when it is at a higher value, you buy fewer shares. As a result, your average price per share is lower than it might otherwise be.

Of course, doing it monthly you are much more likely to actually CONTRIBUTE to your Roth or other investment than if you wait till the end of the year (likely you won’t have $5000 just sitting around…)