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What is Dollar Cost Averaging?

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“DCA is stupid-smart.” ―Michael

DCA is an investment strategy designed to reduce volatility in which mutual fund shares are purchased in fixed dollar amounts at regular intervals, regardless of what direction the market is moving. Thus, as prices of securities rise, fewer units are bought, and as prices fall, more units are bought.

For example, instead of investing $8,000 into an IRA / mutual fund as a lump sum, the investor buys smaller amounts over a longer period of time ($667 per month). This spreads the cost basis out because you bought mutual funds shares 12-times per year instead of one time.

DCA has been called the "dumb man's revenge" because over the long-term it can outperform "clever" market timing strategies and sporadic deposits.

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“Dollar-cost averaging is almost real-time re-balancing." ―Nick Murray

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Two years of idential deposits disregarding the market.

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The market was flat, but the investor profited! (From Nick Murray's book Simple Wealth, Inevitable Wealth.)


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“This is a testimony to the genius of dollar-cost averaging, which all long-term accumulators practice because we have no choice: we're investing what we can save from what we earn, and this process is ongoing. Investing over time into a meaningfully diversified equity portfolio, aided by annual re-balancing, inevitably loads up on the laggards and eschews what's hot, thereby insuring that we outperform not just the markets but our own investments." ―Nick Murray


Benefits of DCA

  • Reduces Average Cost

    Buying more units when prices are low and fewer units when prices are high reduces the average cost per share. It helps reduce the cost basis on securities that decline in value.

  • Automatic

    With an Electronic Fund Transfer deposits occur systematically from your checking account into your mutual fund.

  • Affordable

    With American Funds you can do as little as $50 per month. With most VA's it is $100.

  • Easy

    The process is simple: fill out the DCA Form (or do it online) and DCA transfers will begin immediately.

  • Disciplined

    Dollar cost averaging takes the emotion out of investing. You can stop asking yourself, "When's the right time to buy?" It eliminates the issue of “market timing.” As a result, an investor's returns will be determined more by the overall trend in a given fund as opposed to the investor's specific entry price.

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“The best time to invest in equities is whenever you have the money. It is the patient, disciplined equity accumulator — looking neither to the left at economic events nor to the right at market gyrations — who achieves his/her lifetime goals. This exquisitely rare accomplishment is never intellectual, but always temperamental.

Thus, if I suddenly came into a million after-tax dollars one day, it would all be invested in equities by nightfall. Never having experienced such a day, but instead having spent a career investing my net earnings, I have always been, however haphazardly, dollar cost averaging. That is to say: whenever I had money to invest, and the equity market was terrible, I all unwittingly acquired barrels full of panic-priced shares. And when I had investable sums in soaring markets, I (equally unconsciously) bought thimbleful of relatively overpriced shares.." ―Nick Murray


Should you DCA if you have a Lump-Sum?

Historical analyses across various markets and time periods1 indicate that lump-sum investing has outperformed dollar-cost averaging in approximately two-thirds of cases, as equity markets have tended to rise over the long term. Nevertheless, DCA remains a prudent choice for investors who are unsing monthly income to fund the account, or don't have a lump-sum to invest.

Short answer? No. (This is my opinion, and not a fact.) If you have money, get it in the market ASAP and let it grow! Money invested sooner has more time to grow than money invested later.

Resources

  1. Dollar-Cost Averaging Vs. Lumpsum Investing, Investing.com ↩