Q: Most articles about dollar-cost averaging involve buying just one stock at predetermined intervals. How can someone like me, who invests about $500 per month, use dollar-cost averaging to construct a diverse stock portfolio?
Dollar-cost averaging refers to the strategy of investing a set dollar amount in a stock at specific intervals. The idea is that you'll end up buying more shares when prices are low, and fewer shares when prices are high. For long-term investors, this is a mathematically favorable way to buy stocks.
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However, the problem with dollar-cost averaging for many investors, especially new investors, is that it takes at least 10-15 stocks to have a properly diversified portfolio. Therefore, it may not be practical to average into a dozen or more stocks at the same time.
One solution is to use index funds instead of individual stocks. The principals of dollar-cost averaging still work, and you'll build a well-diversified base to your portfolio. For example, the Vanguard S&P 500 ETF (NYSEMKT: VOO) is one of the best index funds with which you can start investing in stocks, and is essentially a diverse portfolio of 500 stocks all in one investment.
Alternatively, if you insist on individual stocks, come up with a list of say, four stocks that you want to own for the long term. Then, buy one the first month, another the second month, and so on. Repeat the cycle two more times, and you'll have averaged into four long-term stock positions over the course of a year. Use different stocks you want to own next year, and before you know it, you'll have used dollar-cost averaging to create a diverse stock portfolio.
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