Here’s What to Do with Cash
As you build your wealth, your financial plan needs constant assessment to ensure proper asset allocation and optimal growth. After you complete the financial health checkup (and bonus financial planning checklist), you will know that having a plan for all of your assets is essential, and that includes deciding what to do with excess cash.
One solution is to dive right in, fully deploying your capital into the market right then and there. Seems simple, right? Well, whether this approach makes sense depends on a few things, like the state of the market and your risk tolerance level.
An investment best practice is to enter the market when the prices are low. The recent market volatility in late 2021 and at the beginning of 2022 is opening the door to enter the market.
Say you’ve decided to take advantage of today’s market downturn, next you have to gauge your comfort for risk. If you feel that investing all-in on the market at once is too much risk, don’t think that investing in any amount should be out of the question. Dollar-cost averaging is a sound, disciplined, and approachable method to putting some amount of cash to work today. Let’s explore this method and if it’s an option for you.
What is Dollar-Cost Averaging?
Dollar-cost averaging is the practice of investing increments regularly over time. Rather than trying to time the market to get the lowest price, you invest a fixed amount and buy however many shares you can depending on the price at the time. In other words, you’ll buy more shares when the market is down, and less shares when the market is up.
Example:
You have $10,000 of cash on the side. Each month you will invest $1,000.
Month 1: Amount invested: $1,000; Share price: $5; Shares purchased: 200
Month 2: Amount invested: $1,000; Share price: $5; Shares purchased: 200
Month 3: Amount invested: $1,000; Share price: $3; Shares purchased: 333
Month 4: Amount invested: $1,000; Share price: $2; Shares purchased: 500
Month 5: Amount invested: $1,000; Share price: $5; Shares purchased: 200
Total invested: $5,000; Average cost/share: $4; Total shares purchased: 1,433
Looking at the final numbers, this strategic method allows you to edge into the market and invest with an added benefit, in this example, of lowering your average cost per share. And, should the market instead move higher, you will have at least gained some exposure at today’s lower share price.
Is Dollar-Cost Averaging for you?
Now that we’ve laid out what dollar-cost averaging is, does it make sense for you? For those worried about risk, this is a slower paced, more controlled method to allocating fresh assets. By slowly allocating a set amount, it allows you to participate in the market and be comfortable with higher investment exposure.
Another benefit is that it removes behavioral biases from the process, especially those such as anchoring and loss aversion that can keep people from investing in a more optimal way. Such biases can overcome logic and influence decision-making, especially when it may represent a large amount of your money.
At the end of the day, you know your risk and comfort levels best – but that doesn’t mean you have to determine it alone. Working with a financial advisor adds layers of expertise and experience to evaluate your situation, to determine the best plan for you, your wealth, and your future.
To see if dollar-cost averaging is right for you schedule a call with us today.
