Dollar-Cost Averagers: How to Invest in ETFs

Exchange-traded funds have been soaring in popularity, except with one group: people who invest small sums in strategies using dollar-cost averaging. Now that’s changing, as Fidelity Investments joins Charles Schwab (Stock Quote: SCHW) in offering commission-free trading on some ETFs, eliminating a sizeable cost for small investors.

On Feb. 3, Fidelity began offering commission-free trading on 25 iShares ETFs. Last November, Schwab announced a commission-free policy for eight of the firm’s own ETFs.

It’s a welcome development, but dollar-cost averagers need not limit themselves to the handful of commission-free ETFs. It’s easy to set up a program for using any ETF in a routine-investment program without incurring excessive fees.

ETFs are like mutual funds, except they are traded like stocks. That has long meant incurring a broker’s commission with every purchase or sale. Even with a deep discount broker charging a typical rate of $13 a trade, commissions can chew into an account if you invest only $100 or $200 at a time. For anyone investing $25 or $50 at a time, a $13-per-trade commission would make ETFs very unattractive.

That’s too bad, given that ETFs typically offer rock-bottom expense ratios and great tax efficiency.

Commissions aren’t a problem with no-load mutual funds bought and sold directly with the fund company, as there are no sales changes. Some brokers offer commission-free mutual fund trades as well.

Dollar-cost averaging means investing a specific sum at regular intervals, such as once a week, month or quarter. The fixed amount buys more shares when prices are down, fewer when prices are up. That helps minimize the average cost of purchasing shares. And the regular investing schedule imposes discipline, helping the investor overcome the temptation to time the market.

Most 401(k) investors use dollar-cost averaging, even if they don’t know the term. For investors using IRAs or taxable accounts, many mutual fund companies and brokerages will set up an automatic investing program, sweeping money into a fund from a money market or bank account.

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