When investing for retirement, dollar cost averaging may prove to be one of your best facilitators. This investment strategy is designed to reduce the volatility in which securities are purchased in fixed dollar amounts at regular intervals, no matter which direction the market is moving. Though, utilizing this strategy takes determination, dedication and discipline. Following are a few ways to put this strategy into practice regardless of the amount you set aside for investments. Start now. The sooner you put dollar cost averaging into place, the more time you will have to take advantage of this strategy. Your retirement account balance could be dramatically impacted even if you wait just a few years. Let’s say Amy invests $400 monthly beginning in 2010 with a modest investment portfolio annual return of eight percent. Meanwhile, Jason, choosing to wait only one year, begins investing $400 monthly in 2011. By the year 2040, Jason will have accumulated approximately $545,800, while Amy will have accumulated approximately $596,100. That’s a difference of $50,300!
Know your limits. On average, you should invest approximately 10 percent of your after-tax income. If you consistently follow this rule of thumb, and you start dollar cost averaging early enough, you can be in a great financial position for your retirement years, depending on how much income you will require to fund your retirement needs. Reasonable expectations apply, of course—plan on investing a higher percentage of your income if you want the “world traveler” retirement lifestyle.
Establish automatic funding. These days, it’s easy to establish after-tax retirement accounts such as a Roth IRA or a simple brokerage account that can automatically draft funds to your account on a regular basis. This is an effective way to keep track of exactly when and how much your retirement account will be funded; it also saves you a trip to the post office. In addition, this tactic can be used to quickly transfer monies into the retirement account if you happen to come across some extra income you haven’t already been tempted to spend. Every little bit helps you move closer to the day you can retire and become financially independent.
Stick with it, even if the economy appears unstable. Taking advantage of the lower periods in the stock market is part of the reasoning behind consistent investing. This is more beneficial than subjectively investing a lump sum only when the economy looks great and, on average, you will end up purchasing your investments at a lower price over time. If need be, you can adjust your dollar cost average amount temporarily; however, never quit completely.
Pack your patience. The safest way to invest in the market is with a long-term philosophy. This means you must have reasonable growth expectations for your investments. More importantly, do not become discouraged when your investments fluctuate from time to time. Historically, the market has progressed in an upward fashion; however, it can be difficult to see this upward trend unless it is illustrated within a significant time period. Though, despite the market corrections, those who consistently dollar cost average with a long-term strategy show an increased rate of return over time. Long-term investors cannot expect their money to double overnight or even in a few years. The Rule of 72 states that to find the number of years required to double your money at a given interest rate, you divide the interest rate into 72. For example, if you want to know how long it will take to double your money at eight percent interest, divide eight into 72.
Leave your investment account alone. Aside from a few allowable penalty-free withdrawals, such as the purchase of your first home, it is advisable that you let your account grow. Do not remove any money until you reach your retirement goals, as the IRS will want a percentage of your hardearned funds if you withdraw early. Instead, wait until you are 59-and-a-half to start withdrawing from your retirement account. It can be tempting to begin withdrawing as soon as you see that your account has grown to a significant value, but you will thank yourself later if you leave it untouched until you are ready to retire.
Have a realistic retirement goal in mind. Do some research to discover the income you will require when you retire. This number will vary depending upon various factors including, but not limited to, inflation, geography, lifestyle and number of retirement years. The earlier you retire, the more years you will need to sustain your chosen retirement lifestyle. Once you decide how much money you will need to survive during retirement, set that specific income amount as your goal and dollar cost average until you are successful at reaching it. With the right amount of determination, dedication and discipline, you can achieve your retirement goals.