What is cost averaging and how does it work?

Investing can be an emotional roller coaster. While some volatility can be appealing to experienced traders, it can be frustrating and even intimidating to people who just want to add Bitcoin or other digital assets to their portfolio. When is the right moment to buy? Now? Next week? Or did you already miss the train because you didn’t buy last month? To avoid those doubts it’s a good idea to follow a disciplined approach with regular investments over time. The strategy behind this approach is called ‘cost averaging’ and in this post you’ll learn what it is and how it works.

The general idea is that instead of investing the whole amount (lump sum investment) you stretch the investment out over a longer period of time and invest smaller amounts regularly.

What is cost averaging?

‘Cost averaging’ is a popular investment strategy where you take short term emotions out and instead focus on a long term approach. By constantly acquiring an assets you are able to smooth out market volatility. When you buy an asset on a weekly or monthly basis, you are less dependent on short term price fluctuations. The general idea is that instead of investing the whole amount (lump sum investment) you stretch the investment out over a longer period of time and invest smaller amounts regularly.

The key takeaway here is: You buy more shares when the price is low, and fewer shares when the price is high. With cost averaging you don’t have to worry about price movements and can invest strategically over a long timeframe. The longer you invest in a specific asset, the closer you get to the average price of the asset.

With cost averaging you don’t have to worry about price movements and can invest strategically over a long timeframe. The longer you invest in a specific asset, the closer you get to the average price of the asset.

How does cost averaging work?

Let’s say you want to invest 600 Euro in January, you stretch out the investment over half a year and invest 100 Euro in a given asset each month. So after 6 months you will have invested 600 Euro with both strategies. In the first scenario you bought let’s say 60 shares for 10 Euro each with your 600 Euros. After 6 months you still have 60 shares. In the second scenario your initial investment is just 100 Euro and keep investing 100 Euro each month. What will happen during the six months is is that you profit from the price going down (because you can buy more shares for less money) and you will be less dependent on short term price volatility (because even if you buy it at a higher price, you just invest 100 Euro and not the whole amount).

As you can see in the infographic and the table you pay the average per share over the time you invest instead of paying the current price when you invest everything at once. Please note that this is just an example. It always depends on the timeframe, so with other price developments it could be that you have less shares with cost averaging after 6 months than you would have had when you invested the whole sum at once. In general you should see cost averaging as a long term strategy.

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