When you start your investing journey, one of the first decisions you’ll need to make is when or how often to invest. But when markets are rising and falling every day, it can seem tricky to take the plunge.
Enter pound-cost averaging — the simple investing strategy that helps smooth out the ups and downs that come with investing in the stock market.
What is pound-cost averaging and how does it work?
Pound-cost averaging involves investing money regularly, for example weekly, every two weeks or monthly, instead of investing a large lump sum all at once. It is also commonly known as dollar-cost averaging when talking about US markets.
When prices of stocks or an exchange-traded fund (ETF) are low, your money buys more of that investment. When prices are high, your money buys less. That means over time, you’ll average out the cost of your investments and find a middle ground with relatively low effort.
Let’s say you invest £100 every month into an ETF.
In January, the ETF costs £10 per unit, so you buy 10 units. In February, the price drops to £5, so you buy 20 units. In March, the price rises to £20 so you buy 5 units. Over three months, you’ll have bought 35 units for £300.
In contrast, if you tried to invest a lump sum of £300 in March, the same amount of money would have only got you 15 units.
This approach helps you smooth out market volatility and avoid the emotional ups and downs that come with trying to time your investments.
Why is pound-cost averaging so popular?
Big market swings can make it hard to decide when the right time to invest is. But investing regularly helps you ignore the short-term noise and stay invested through volatile markets, without having to guess when to buy or worry about market highs and lows.
It’s particularly helpful if you find investing a lump sum all at once daunting. Breaking it down into smaller amounts makes investing more comfortable and helps you stay consistent.
What are the benefits of pound-cost averaging?
- Reduces timing risk
It’s impossible to know when markets will rise or fall. Pound-cost averaging removes that guesswork by letting you invest little and often through all market conditions.
- Builds investing discipline
Making regular contributions helps you form a healthy investing habit. It’s a disciplined investment approach that encourages consistency, not market timing.
- Helps manage emotions
When the market feels volatile, investors often worry or delay. Pound-cost averaging makes investing feel less daunting by taking emotions out of the process.
- Smooths out costs
By smoothing out the ups and downs, this approach can reduce the impact of short-term price changes. Over time, you buy more when prices are lower and fewer when they’re higher.
- Makes investing accessible
You don’t need to start with a lump sum of thousands. With fractional investing via InvestEngine, you can start from as little as £20 per month and gradually build your portfolio.
Investing a lump sum vs pound-cost averaging
Is it better to invest a lump sum or use the pound-cost averaging strategy?
If markets rise steadily, a lump sum can offer higher returns because your money is invested sooner. But in volatile markets, regular investing helps you manage risk and stay invested through ups and downs.
The best choice often depends on how comfortable you are with risk and market volatility.
For many, investing little and often feels easier and less daunting than investing all at once.
How to benefit from pound-cost averaging with InvestEngine
At InvestEngine, pound-cost averaging is built into our automated investing tools like Savings Plans and AutoInvest, helping you add money regularly.
InvestEngine’s Savings Plan lets you invest regularly from as little as £20 per month. Payments are made securely via Open Banking and invested straight into your chosen ETF portfolio. You can use a Savings Plan for DIY portfolios where you pick your own ETFs.
AutoInvest puts your cash to work by making sure no cash sits idly in your account. It automatically invests your available balance according to your chosen ETF mix, keeping your investments aligned with your targets.
Together, these tools make investing simple and automatic which is ideal for building a long-term Stocks & Shares ISA, Self-Invested Personal Pension (SIPP) or Business Account.
Why pound-cost averaging works for long-term investors
Markers will always rise and fall but history shows that investors who stay invested for longer tend to see better results.
Pound-cost averaging helps you stay invested during volatile times, giving your money time to grow. It also removes the temptation to keep idle cash uninvested — where it could lose value over time due to inflation.
Keeping money as cash might feel safer, but over time it can reduce your future returns. By investing regularly, you give your portfolio a better chance to grow.
Key takeaways
Pound-cost averaging is one of the easiest ways to start investing. It helps you smooth out volatility, stay disciplined, and invest little and often without worrying about market timing.
With InvestEngine’s Savings Plans, AutoInvest, and fractional investing, you can automate the process and stay focused on your goals.
Start today: set up a regular investment from £20 a month and let pound-cost averaging do the hard work for you.
FAQs
1. What is pound-cost averaging in simple terms? It means investing the same amount of money at regular times (such as weekly or monthly) instead of investing a lump sum all at once. It helps smooth out market ups and downs and makes investing more consistent.
2. How does pound-cost averaging help reduce risk? By investing regularly, you buy more when prices are low and less when they’re high. This helps average out the price you pay and reduces the risk of investing all your money just before markets fall.
3. What are the main benefits of pound-cost averaging? It helps you stay invested through volatile markets, reduces emotional decision-making, builds discipline, and makes investing feel less daunting. It’s an easy way to invest little and often and grow wealth over time.
4. Is pound-cost averaging better than investing a lump sum? Not always, it depends on market conditions and your comfort with risk. Lump-sum investing can give higher returns in rising markets, while pound-cost averaging helps manage risk and smooth volatility in uncertain times.
5. Who is pound-cost averaging best suited for? It’s ideal for beginners and long-term investors who want a steady, low-stress approach. It also suits people investing regularly into a Stocks & Shares ISA, self-invested personal pension (SIPP) or ETF portfolio through automated investing tools like Savings Plans.
6. How can I use pound-cost averaging with InvestEngine? InvestEngine makes it simple with Savings Plans and AutoInvest. You can invest automatically from as little as £20 a month into a chosen ETF portfolio.
7. Can I start investing with a small amount? Yes. With fractional investing, you can start with small regular contributions, such as £20 per month, and still access a diversified ETF portfolio. It’s an affordable way to build long-term investing habits.
8. Does pound-cost averaging guarantee profits? No, like all investing, your capital is at risk. It doesn’t remove risk but helps manage it by spreading your investments over time and reducing the impact of market timing.
9. How does pound-cost averaging work during volatile markets? When markets fall, your regular investments buy more units; when they rise, you buy fewer. This naturally smooths your average purchase cost, helping your portfolio recover more steadily when markets improve.
10. Why should I automate my investments? Automating your regular investments removes the temptation to time the market. Tools like InvestEngine’s AutoInvest and Savings Plans make it easy to stay disciplined and consistent – two key habits of successful investors.
Important information
Capital at risk. The value of your investments can go down as well as up, and you may get back less than you put in.
Tax treatment depends on individual circumstances and is subject to change. ETF costs also apply.
This content is for information only and is not financial advice. If in doubt you may wish to consult a professional adviser for guidance.