DOLLAR COST AVERAGING (DCA)
Building Assets via DOLLAR COST AVERAGING (DCA) Veterans often hear stories at bike meets, cookouts and tailgating events about how a battle buddy made a nice sum by investing in stocks. Yet no one ever talks about how they did not do so well in the stock market…You would wonder why? Contrary to the public images of Donald Trump, Bill Gates, Warren Buffet type of wealthy investors, the average investor invests each month over their life. If you are a beginning investor or investors with a lower risk tolerance and a long-term investment horizon, you may want to consider Dollar Cost Averaging (DCA). Now don’t get me wrong…the DCA strategy does not guarantee all good returns on your investment. But if you want to reduce the risk of loss to your investment and you want to control your emotions…then dollar-cost averaging could be a viable option for you.
In the white paper. ‘John Doe's Old-Age Provision: Dollar Cost Averaging and Time Diversiﬁcation,’ Dirk Ulbricht pointed out that many investment advisers suggest that the risks associated with investing can be diversiﬁed away using timing and time. The white paper suggests diversifying investments over diﬀerent market periods and extending the length of the investment horizon. This is code for time diversiﬁcation. From time to time markets become bearish…securities prices fall. Widespread pessimism causes the negative sentiment to be self-sustaining. Then, the markets invoke a healing process and recover, becoming bullish…if the horizon is long enough, stock investments will always considerably outperform riskless alternatives.
Morningstar Investment Research gives a straight forward explanation of how Dollar-Cost Averaging works. “It is a way to buy more of an investment when it’s cheaper and less when it’s expensive. To dollar-cost average, you simply invest the same amount of money every week, month, or paycheck so that, as an investment’s price falls, you automatically buy more shares .”
As an investor, the servicemember might ask the question: Is this better than investing a Lump Sum? Vanguard Center for Retirement Research revealed in a recent survey that a Lump Sum Investment (LSI) approach would outperform a DCA approach the majority of the time. At the same time, this study suggests that if the investor is primarily concerned with minimizing downside risk and potential feelings of regret (resulting from lump-sum investing immediately before a market downturn), then Dollar Cost Averaging (DCA) should be deployed
The study cites an example of an employee transferring a portion of each paycheck into a retirement account. Relatively small amounts over time, make DCA a prudent way to invest. As the JP Morgan chart below clearly shows…the key strategy is to accumulate as many shares as possible over the duration of the accumulation period of the investment.
This result would be assets of greater value that could be deployed to meet Financial Goals.
NOTES ON RISK: All investments are subject to risk. Past performance is no guarantee of future returns. We have purposely omitted reference to specific investment performance and returns. Dollar-cost averaging does not guarantee that your investments will make a profit, nor does it protect you against losses when stock or bond prices are falling. There is no guarantee that any particular asset allocation or mix of funds will meet your investment objectives or provide you with a given level of income.
Resources and References
John Doe's Old-Age Provision: Dollar Cost Averaging and Time Diversiﬁcation | The German Institute for Economic Research or more commonly DIW Berlin | diw.de/en | https://www.diw.de/documents/publikationen/73/diw_01.c.461592.de/dp1376.pdf
Morningstar Investment Research : What is DCA?| http://www.morningstar.com/InvGlossary/dollar-cost-averaging.aspx
Vanguard Center for Retirement Research |Dollar-Cost Averaging Just Means Taking Risk Later| https://personal.vanguard.com/pdf/s315.pdfrd.com/pdf/s315.pdf