Asset Allocation and Dollar Cost Averaging
As the end of the year fast approaches, I’ve been thinking more and more about putting my children’s college funds into 529 accounts. Our state offers a significant tax incentive for investing in the in-state 529 plan, and I would like to take advantage of that and be able to invest that money as well for them.
But the market is crazy, I don’t want to lose the money we’ve saved, and who knows how long the current economic downturn will last. Which is why I’ve spent the past few weeks trying to figure out my own risk tolerance and understand what I’m most comfortable with doing. Which has led me to learn about asset allocation and dollar cost averaging, which are my new best friends and how I am going to make my investments mirror my own risk tolerance. (My risk tolerance, for the record, is lower than I thought it was before I decided to actually figure it out).
Asset allocation, in a nutshell, is the way your assets are invested. This is a really detailed explanation which is very informative, but for my purposes here, it is what percentage of your assets are invested in particular types of investments. In a very very broad sense, the higher the percentage of stocks (versus other things like bonds or money market funds or even CDs), the riskier the portfolio. The more chance for reward, but also the more risk.
Dollar cost averaging is investing a fixed amount on a regular schedule, versus making single large purchases at one time. Because you are making smaller purchases over a period of time, you have less risk that the market will have a sharp downturn right after you make a single big investment. This is also a method for mitigating risk.
I have about $4000 between my two children’s college accounts (right now in savings accounts) to open the 529s with. Tomorrow I’ll go into how the concepts of asset allocation and dollar cost averaging affected what I decided about initial investments in 529s as well as our future ones. I haven’t pulled the trigger yet, but I did go ahead and open a 529 for each child with a small initial investment, and will be moving their savings accounts fully into the 529s by the end of the month.
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November 19th, 2008 at 8:08 am
I am facing this same issue in deciding what to do with cash I’ve accumulated for year-end rebalancing of our retirement accounts. Certainly dollar-cost averaging through 2009 makes sense but what about using all of the cash now? Not sure yet.
November 19th, 2008 at 8:28 am
I would put the money in and elect for safer investment options until the volatility goes down (based on the VIX, which is only a 30 day projection but better than nothing), then move back into your “typical” asset allocation. Your kids are still young so you have some time but the volatility can have a big impact on your entry points.
November 20th, 2008 at 12:35 am
529 plans normally offer two options 1) college investment plan 2) prepaid college trust. The prepaid college trust plan is You can always do a 529 plan that is a prepaid college trust. It will lock in tommorrow’s college prices at todays costs. The prepaid plan is normally for use at a university in your state. You can always purchase both 529 plans. The college investment plan which invest in mutual funds normally wiould be for growth and the prepaid plan for safety.
November 26th, 2008 at 1:34 pm
Something you should consider is how much is tax deductible in your state. If you are going to go through with your plan you might as well as do it in the tax efficient method.
For example, in New York one gets a NY State deduction UPTO $3K/yr to fund a 529. So if you are looking at $4K, you should split up the deposits into the 529 (ignoring the asset allocation therein for right now) so that $3K goes in for December and $1K goes in after Jan 1.
November 26th, 2008 at 2:38 pm
@ MyJourney - Indiana is a 20% tax credit up to a $1000 credit (on a $5K deposit) so $4K is short $1 of my max deposit for a credit.