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"Dollar-Cost Averaging," Explained

Motley Fool Staff
March 27, 2006

Dollar-cost averaging can be a good way to protect yourself from a volatile market. It's the practice of accumulating shares in a stock over time by investing a certain dollar amount regularly, through up and down periods.

For example, you might purchase $500 worth of Scruffy's Chicken Shack (ticker: BUKBUK) stock every three months. You'd do this regardless of the stock price, buying 10 shares when the price is $50 (10 times $50 is $500) and eight shares when it's $60 (eight times $60 is $480).

The beauty of this system is that when the stock slumps, you're buying more, and when it's pricier, you're buying less. It's an especially good way to accumulate shares if your budget is limited. (Buying regularly through dividend reinvestment plans, or "Drips," is a form of dollar-cost averaging.) Don't drown in commission costs, though -- engage in dollar-cost averaging only if you can keep commissions below 2% or if you're buying through direct-purchase plans.

And if you're dollar-cost averaging by the book, you shouldn't be second-guessing the market, deciding to skip an installment because the stock is up or down. It's meant to be a methodical system.

Take some time to learn more about Drips. Learn more in these articles, too:

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