6. Dollar Cost Averaging
We have previously seen how markets are cyclic, and cryptocurrency more volatile than regular markets. Future swings are therefore likely to happen and it would then be prudent to ask ourselves how one can invest through these cycles in the most sustainable way. Welcome to Dollar Cost Averaging.
Dollar Cost Averaging means that the the practitioner invests in the assets the same number of dollars each month or quarter. In this way he buys more shares when the market is low than when it is high, and he is likely to end up with a satisfactory overall price for all his holdings. (Graham, p.29)
With an Investment Plan that uses Dollar Cost Averaging you will be happy to see gains in your capital when the market goes up. When the market goes down you can be happy for your future purchases to be cheaper. You can answer every market related question with “I don’t know and I don’t care”, relying on your investment plan to deliver the expected results on autopilot. (Graham, p. 131)
No one has yet discovered any other formula for investing which can be issued with so much confidence of ultimate success, regardless of what may happen to security prices, as DCA. (Graham, p.118)
Dollar Cost Averaging arises when you “average out” the price tag of your investments over time. The principle is very simple: by continuous purchases of your securities you make sure that you buy when the market is both low and high, and will over time give you an average price of a security.
The underlying principle of why DCA is such an integral part of an investment strategy is that it is statistically implausible to time the market. In a bull market everyone gains, but the people that invest the most in a bull market are also the ones that lose the most in a bear market, as retold by Graham:
The people who take the biggest gambled and make the biggest gains in a bull market are almost aways the ones who get hurt the worst in the bear market that inevitably follows (Graham, p. 525)
Investing through cycles
Malkiel shows a simple example which shows the value of DCA in a market which grows versus a volatile market.
We all know that an increasing market is great for the assets we have on our account. In the above table can wesee that when you are continuously buying and can wait until the market has gone up, a downturning market is good for your finances. Value at end is $6,048 in a volatile market vs $5,916 in a bull market. That is the power of Dollar Cost Averaging. A good market is good, and a bad market is good as long as you can hold the assets until they make a come back.
Another example of how DCA rewards the investor is made by Graham from the great depression.
Investing $10k around the height of the market in 1929 would have netted you $7,223, a loss of $2,777 the year 1939, ten years later.
Investing $100 every single month starting 1929 would have 1939 netted you $15,571. (Graham, 131)
Additionally, it limits your risk in a continuous bear market.
From the end of 99 through the end of 02, the S&P 500 stock fell relentlessly. But if you had opened an index fund account with a $3,000 dollar investment add added 100 dollars every month, your total outlay of $6,600 would have lost only 30.2%, much better than the 41.3% plunge. Better yet, your steady buying at lower prices would build the base for an explosive recovery when the market rebounds. (Graham, p.132)
Summary
If you believe in an asset in a long term perspective you should take into account that the market is cyclic and that you cannot time it. An investment strategy that deals with this best is DCA. Indeed, a bad market returns the DCA investor when it dips to momentary low prices. Provided the investor can hold the assets long enough to see returns. The recommendation is clear: Invest continuously, through the ups and through the downs. If you have made the decision to enter the space your best bet is to consistently put money into your investment strategy.
Next we discuss what the books think is a prudent target for What To Invest In
