Low-risk investors have plenty of investment strategies worth pursuing – one of them being dollar cost averaging. People normally save their money and invest big when the time is right. They make a one-time purchase at a “favorable” moment (a rarity for beginners), only to leave themselves at the mercy of the market.
Determining the market’s structure at any point is incredibly difficult. Maybe it’s a period of distribution, and the asset is about to fall big. Or perhaps it’s an accumulation period where whales buy plenty of coins and push the asset up. No matter which structure the market falls into, the investor remains exposed to risk.
But what if you leave money aside every week or month and buy bit by bit? Better yet, stay consistent and buy in spite of volatility since you never know where the market heads next. That’s the premise behind Dollar Cost Averaging (DCA).
And how can you argue against it? Statistics indicate that DCA reaps far higher rewards compared to buying the dip – a strategy where you save up money and buy when the market hits a low.
In this article, I explain the basics of dollar cost averaging and show how you can build wealth over time simply by staying persistent and disciplined. I also share several real-world use-cases that highlight the effectiveness of DCA.
Dollar cost averaging is a strategy investors use to distribute capital to an asset over time. The strategy negates the effects of short-term volatility and helps investors accumulate wealth and build one’s investment capital.
DCA followers stick to a strict schedule during which they buy periodically but consistently in spite of price fluctuations. One can make orders every week, every other week, or even once a month. Doing so prevents one from spending their entire capital at poor moments.
“Time in the market is better than timing the market.” - Wall Street saying
Let’s use an example.
Bob is a programmer who earns $4,000 a month. He heard about Bitcoin in late 2020 and decided to allocate 10% of his monthly salary ($400) to cryptocurrencies. Already aware of dollar cost averaging, Bob settled on distributing his allocation each week.
With $400, Bob bought $100 worth of Bitcoin once every week. He continues to DCA for an entire year and ends up spending $5,300 in total. By the year’s end, Bob’s investment turns into $7,000, gaining roughly 32%.
If Bob had replicated the same strategy a year earlier, he would have been up 103% after turning $5,300 into $10,782.
And if he was ambitious enough to resume DCA-ing, Bob would have turned $10,700 into $39,147 for an incredible 272% gain.
The examples above show that DCA is a gift that keeps on giving, but it’s not just the upside you have to think about.
What if Bob entered a market on the brink of collapse? Let’s imagine a scenario where Bitcoin drops from here on out. A bear market starts, and cryptocurrencies dive back into old lows. Digital gold drops from $47,000 back to the previous all-time high at $20,000. That’s a 57% loss, a rather healthy correction.
Under ideal circumstances, DCA lowers Bob’s entry down to $33,500. He distributes his allocations evenly throughout the drop and buys at both the highs and lows. At -40%, there’s no doubt that his losses remain high. However, think about what it would take for Bob to break-even.
At a $33,500 entry, Bob needs a 67.5% rise to reach his entry from the lows. At $47,000, he needs 135%. That’s double the previous amount!
Remember, DCA negates all volatility, both good and bad.
From another perspective, dollar cost averaging is an effective way to stack sats. Some investors pay no heed to Bitcoin’s dollar value. Instead, they focus on accumulating as many coins as possible. And who can blame them? The store of value asset has a great track record of achieving new all-time-highs past each halving.
Holding 10 BTC might have been nothing during March 2020 when Bitcoin crashed to $3,000. But only a year later, the same coins cost $60,000 – netting a $600,000 net worth. Considering the trajectory, it’s not hard to presume even half a bitcoin might be worth quite a lot at some point.
To DCA, you need to know:
Picking a good cryptocurrency requires hours of research (DYOR), especially if you have a high risk appetite and want to score big. But let’s keep things simple; maybe you want to play it safe.
You choose a widely-known cryptocurrency with strong fundamentals and a large market cap like Bitcoin, Ethereum, or Solana. All three have performed well on a long-term basis, so there’s a high chance to exit in profit as long as the market remains stable.
Up next, we have your investment capital. Decide how much money you’re willing to allocate to your crypto portfolio. You don’t have to dream big. The average retail portfolio amounts to only $10,000. It may not be enough to retire, even in the crypto world,but it's just enough to make a huge difference for your finances.
You might even want to think about spending portions of your salary on crypto. Use Bob’s scenario from the section above and customize it according to your situation.
The third and last step boils down to picking a fixed buying interval. When do you want to buy and how regularly? Most investors buy on a weekly level. Some prefer buying every other week in alignment with their paycheck. You’ll even find that certain investors buy every day to negate as much volatility as possible.
Imagine we have $10,000 to our name and want to buy Bitcoin on a bi-weekly basis for a period of six-months. We can’t predict the future, so we’ll have to stick with an existing historical price action to determine the results.
In this case, we’ll start the DCA process on April 25th and end it on October 24th, 2021. That leaves us with 14-weeks. With 14-weeks, we end up spending roughly $714 each buying interval.
For this case study we will use the middle point of each candlestick as the entry price. This leaves us with the following entries:
On average, we enter the market at $44,072.
Remember, if we spent $10,000 in one go, we’d buy Bitcoin at $49,600. But since we used DCA, we lowered our entry to $44,072. That’s 11% lower. Not to mention, we avoided the stress of holding an underwater position for six-months.
But what about our profit? If we sell at the last interval, we are up 40% and have $14,000. And if we sold at the top of this quarter’s market structure we’d be up 54%.
Want to learn more about dollar cost averaging? We recommend exploring the following links:
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