What is Dollar-Cost Averaging (DCA)?

dollar cost averaging
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Learning personal finance can feel like learning another language with all the complicated terms. Luckily, I’m an expert translator for financial terms, so I can help you understand and learn to apply concepts like Dollar Cost Averaging (DCA). 

Dollar-cost averaging (DCA) is an investment strategy that removes the uncertainty of timing a market. DCA involves investing equal (but usually small) sums of money at regular intervals over a certain period of time, as opposed to a one-time investment with a larger sum. 

If you’re looking for more info on DCA, stick around! In the rest of the article, I’ll dive deeper into DCA by providing examples and answering questions like whether DCA is a good investment strategy and if DCA works with Bitcoin.

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What is an Example of Dollar-Cost Averaging?

An example of dollar-cost averaging is investing $100 into the S&P 500 every Monday for ten weeks. In this scenario, the alternative to DCA would be to invest $1,000 into the S&P 500 as a lump sum on the first Monday.

How to Dollar-Cost Average

Starting your DCA journey is fun and easy! Here is how to dollar-cost average with any asset:

  1. Decide how much you want to invest.
  2. Decide how long you want to invest in weeks.
  3. Decide how frequently you want to invest in weeks.
  4. Divide how long you want to invest by how frequently you want to invest. If you want to invest every week for four weeks, you will divide four by one. Your answer will be the number of total payments you make.
  5. Divide the amount you want to invest by the total payments. If you want to invest $100 and your answer in step four was four, you would divide $100 by 4.
  6. Setup an auto-deposit or manually invest on your decided intervals.

Is DCA a Good Investment Strategy?

DCA is a good investment strategy for risk-averse people who don’t want to attempt timing the market. Investors that follow the “get rich slowly” strategy of investment vouch for DCA as the best method to accrue wealth over a long period.

The “get rich slowly” investment strategy involves a combination of DCA, compound interest, and investing in the S&P 500.  If you invest $1,000 into the S&P 500 every month for 22 years, you will have about $1 million.

However, you will have only invested about a quarter-million dollars!  How does this magic work? Compound interest.

What is Compound Interest?

Compound interest is interest earning interest. Say you have an account that compounds 10% interest annually. If you invest $100, you will earn $10 in interest after the first year.

The next year you will earn $11 in interest because your $10 of interest from last year is earning interest.  Compound interest is fun to play around with, so I recommend you familiarize yourself with the concept by messing around with a compound interest calculator.

Also, if you’re interested in further research on “get rich slowly,” I found a fantastic YouTube video that lays out the concept perfectly:

It’s a bit long at 16 minutes, but I promise this video is worth watching. Learning the “get rich slowly” investment technique will open your mind to how possible financial freedom is for anyone.

What is the Advantage of Dollar-Cost Averaging?

The advantage of dollar-cost averaging is that it does not need to time the market. Beginner investors often lose money because they try timing a market, which is essentially gambling.

DCA is an investment technique that removes some of the gambling from investing.

When Should You Use Dollar-Cost Averaging?

You should use dollar-cost averaging when an asset follows a “rocky road.” A rocky road means the value of an asset fluctuates greatly, often referred to as volatility.

DCA automatically purchases more shares of an asset when the price is low and purchases fewer shares when the price is high.

It took me a second to wrap my head around why DCA is best with a volatile asset, so I’ll try and paint you a clearer picture with an example:

We’ll start with a standard DCA timeline:

  • Investment 1: $100 at $5 a share = 20 shares.
  • Investment 2: $100 at $10 a share = 10 shares.
  • Investment 3: $100 at $10 a share = 10 shares.
  • Investment 4: $100 at $15 a share = 6.6 shares

Total shares = 46.6 shares.

The above example depicts a standard stock with a healthy increase in value. In contrast, let’s see what happens when we have a “rocky road” investment period.

  • Investment 1: $100 at $5 a share = 20 shares.
  • Investment 2: $100 at $2.50 a share = 40 shares.
  • Investment 3: $100 at $20 a share = 5 shares.
  • Investment 4: $100 at $15 a share = 6.6 shares

Total shares = 71.6 shares.

When the price fluctuates more, DCA takes advantage of the dips and purchases less when the asset is overvalued. Therefore, the more volatile the asset, the more effective DCA is as an investment technique.

What Does DCA Mean in Crypto?

DCA means dollar-cost averaging in crypto. Dollar-cost averaging is the same concept in normal finance and crypto. However, crypto investors don’t use DCA as frequently as traditional investors.

For a more crypto-centered explanation of DCA, I recommend checking out Next Advisor’s article on DCA with crypto.

Does Dollar-Cost Averaging Work with Bitcoin?

Dollar-cost averaging works effectively with Bitcoin. Bitcoin is a volatile asset, often swinging in price by 30% overnight. As mentioned previously, DCA works best with a “rocky road,” which means Bitcoin is a fantastic asset to pair with DCA.

You can see the potential for DCA after checking out the BTC to USD chart and zooming out over time. The amount of volatility indicates that DCA is a viable strategy.

How Do I Apply DCA to Bitcoin?

To apply the DCA concept to Bitcoin, you can use the same method with DCA in traditional investing. Divide up your lump sum into equal sums and invest the money at a regular interval over a predetermined amount of time.

Is Dollar-Cost Averaging Right for You?

You probably picked up that I’m a big proponent of dollar-cost averaging. It’s true! I’m part of the investors who stand behind DCA as among the best methods to accrue wealth over a long period.

I recommend giving DCA a shot if you find the stress of timing a market overwhelming. You’ll probably earn more money and experience less stress!

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