3 Problems with Dollar Cost Averaging

Investing a set amount of money in your 401(k) plan over a prolonged period of time has three drawbacks:

1. The company you work for may change program administrators or products.

2. The increased probability of job loss.

3. The investor does not pay attention to the market.

The Company

Anytime you are forced to change your portfolio creates an adverse impact.

The company you work for bears an expense in managing your 401(k) plan. When your company decides to change program administrators or delete a product from the portfolio, this will likely save them money and put your investments at risk. Your company's cost savings far out weighs the net losses incurred by their employees.

On a personal note, I worked for a company that changed program administrators 4 times during 10 years. We went from Dreyfus, American Express, Hewitt, to finally ended up at Vanguard. The changes were made without any prior notification from the company.

The Job

Today, the average person will change jobs 5 times during their career. Gone are the days of spending 30 - 40 years on the same job.

Although the waiting period varies, the new employee may have to wait 6 months to a year before they can contribute to the company's 401(k) plan. This waiting period can cause an adverse impact also.

If you start investing in the market when it has risen to its highest levels, you will have a substantial loss when the market falls.

The Market

In financial markets, "Black Monday" refers to Monday, October 19, 1987 when stock markets around the world crashed. The Dow Jones Industrial Average (DJIA) dropped by 508 points to 1739. January 14, 2000 the DJIA closed at 11,750.28 and bottomed out on October 9, 2002 at 7,286.27. Recently on September 29, 2008, the DJIA declined 777.68 points, the largest one day point loss. On "Manic Monday", October 13, 2008, the Dow rebounded 936.42 points to nearly double the largest daily point gain in history. Throughout the years the DJIA has grown from 1739 points in October 19, 1987 to 14,164.53 points in October 9, 2007.

Investors need to understand that mutual fund and stock prices were at record highs when the market closed at 14,164.53 points and likewise they were at record lows when the market closed at 1739 points.

Knowing the DJIA closing position can help you manage your 401(k) investments.

There are 3 important decisions to make as the market rise and fall:

1. The closer to 14,164.53 points, will you continue buying stock or redirect your payroll deductions to stable value or money market fund?

2. The closer to 1739 points, will you increase your payroll deductions and buy more shares of stock?

3. How high or low must the price become before you stop buying?

Investors deciding not to purchase shares when the DJIA approaches 14,000 points are actively managing their 401(k) account. These investors are diversifying their portfolio and investing in a money market account when the market is high. These investors are also positioning themselves to buy more shares when the market price is lower.